Does dollar cost averaging really work? If I have money available now, why shouldn't I invest it all at once? If the market's going up, wouldn't that be better?
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1How do you know the market is going up in a straight line and not bouncing around?– JB KingApr 16, 2013 at 17:15
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8 Answers
Dollar cost averaging moderates risk. But you pay for this by giving up the chance for higher gains. If you took a hundred people and randomly had them fully buy into the market over a decade period, some of those people will do very well (relative to the rest) while others will do very poorly (relatively). If you dollar cost average, your performance would fall into the middle so you don't fall into the bottom (but you won't fall into the top either).
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1I want to add inflation factor. The uninvested money will lose its value by inflation while it's waiting to be invested. So I guess it's a bit lower than the middle. We can diversify our portfolio to reduce risk instead. Apr 19, 2018 at 5:51
If you know with 100% certainty what the market will do, then invest it all at the best time. If not, spread it out over time to avoid investing it all at the worst possible time.
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and if you know with 70% certainty you probably should still buy in then because you will probably make money Sep 14, 2016 at 19:41
If you define dollar cost cost averaging as investing a specific dollar amount over a certain fixed time frame then it does not work statistically better than any other strategy for getting that money in the market. (IE Aunt Ruth wants to invest $60,000 in the stock market and does it $5000 a month for a year.)
It will work better on some markets and worse on others, but on average it won't be any better.
Dollar cost averaging of this form is effectively a bet that gains will occur at the end of the time period rather than the beginning, sometimes this bet will pay off, other times it won't.
A regular investment contribution of what you can afford over an indefinite time period (IE 401k contribution) is NOT Dollar Cost Averaging but it is an effective investment strategy.
Vanguard said: Dollar-cost averaging just means taking risk later
We conclude that if an investor expects such trends to continue, is satisfed with his or her target asset allocation, and is comfortable with the risk/return characteristics of each strategy, the prudent action is investing the lump sum immediately to gain exposure to the markets as soon as possible. But if the investor is primarily concerned with minimizing downside risk and potential feelings of regret (resulting from lump-sum investing immediately before a market downturn), then DCA may be of use. Of course, any emotionally based concerns should be weighed carefully against both (1) the lower expected long-run returns of cash compared with stocks and bonds, and (2) the fact that delaying investment is itself a form of market-timing, something few investors succeed at.
I agree with them. Here are my additional opinions:
- The uninvested money will lose its value by inflation while it's waiting to be invested.
- As time goes by, accumulated investments diminish DCA effect.
- We can diversify our portfolio to reduce risk instead.
Dollar cost averaging works if the stuff you're buying goes up within your time horizon. It won't protect you from losing money if it doesn't.
Also consider that the person (or company, or industry) that suggests dollar-cost averaging might want you to start up a regular investment program and put it on auto-pilot, which subsequently increases the chance that you won't give due attention to the fact that you're sending them money every paycheck to buy an investment that make them money regardless of whether you make money or not.
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No, it's exactly the opposite. It works if the stuff you're buying goes DOWN, because then your average price will be lower. If the stuff you're buying goes up, then you would have been better off buying in a lump sum at the beginning.– JerJan 4, 2013 at 18:10
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2The key point is "within your time horizon." If I buy something every month at prices starting at $50 and going down to $25, and need to sell at that point, DCA didn't protect me from the loss.– mbhunterJan 6, 2013 at 6:12
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3Of course it protected you from loss! In your scenario you lost less money by DCA than you would have if you bought it all at once at $50. Since you continually bought on the way down from $50 to $25, your average price is less than $50.– JerJan 7, 2013 at 20:30
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I agree that one should be wise while taking advice from the person (or company, or industry). Assuming that the advice is right, I disagree with other part of the paragraph. Should I be concerned about how much other person is earning from my investment? I think NO. If so, I should leave my job, stop visiting Doctor and Lawyers and......– AastikAug 27, 2018 at 18:58
If you have a lump sum, you could put it into a low risk investment (which should also have low fluctuations) right away to avoid the risk of buying at a down point. Then move it into a higher risk investment over a period of time. That way you'll buy more units when the price is lower than when it's higher.
Usually I hear dollar cost averaging applied to the practice of purchasing a fixed dollar amount of an investment every week or month right out of your salary. The effect is pretty minimal though, except on the highest growth portfolios, and is generally just used as a sales tool by investment councilors (in my opinion).
answered Oct 27, 2009 at 3:49
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3Don't you mean "avoid the risk of buying at an UP point"? But what does a low-risk investment have to do with the relative price of the stock? Certainly even less risky (less volatile) stocks must, mathematically, have high and low stock prices, and the investor cannot know for certain whether he is buying at a high or low relative to what comes next. Aug 22, 2011 at 16:07
Here is a deliberately simple example of Dollar Cost averaging:
Day 1: Buy 100 shares at $10. Total value = $1,000. Average cost per share = $10.00/share (easy).
Day 2: Buy 100 more shares at $9. Total value = $1,900. Average cost per share = $9.50/share (1,900/200).
Notice how your average cost per share went from $10.00 to $9.50. Now instead of hoping the stock rises above $10.00 a share to make a profit, you only need it to go to $9.50 a share (assuming no commissions or transaction fees). It's easy to see how this could work to your advantage. The only catch is that you need buy more of a stock that is dropping (people might think you're crazy). This could easily backfire if the stock continues to drop.
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10I don't think you're doing the dollar cost averaging right! The idea is to invest the same amount of dollars and buy different quantities! Using your method, you get the arithmetic average, (10 + 9)/2 = 9.5. Using true dollar cost averaging, you get the harmonic mean, 2/(1/10 + 1/9) = 9.47, which is already lower. You'd buy 100 shares at $10, total value 1000. Then when the price drops to $9, you buy 111 shares, total value also (approx.) 1000. Apr 16, 2013 at 16:20
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2I agree with @Lagerbaer. Dollar cost averaging means agreeing to invest the same amount at different times. Not $1000 1 month and $900 the next.– Alex BNov 22, 2013 at 5:04
Over the long run, markets have always gone up. There have been down periods but they have always rebounded. If you pick any random point in the past 100 years and lump sum invested, on average you would have done better than dollar cost averaging if you kept your holdings long enough. This is why most professionals recommend lump sum investing than dollar cost averaging.
Of course, however, this discards any information about the current market conditions. If you change the statement above and lump sum invest at new highs, vs dollar cost averaging, this will skew the result to in favour of dollar cost averaging, likewise at 20 year lows this will skew the result to favour lump sum investing.
