Riskier assets such as the equities and cryptocurrencies are down over 50% Year-to-Date as a result of a more aggressive stance by central bankers to increase contractionary monetary policies to curb the ever-increasing and worrying inflation rate.
As of the moment, major markets are now known for their fierce volatility and downside as more than $7 trillion have so far been wiped out from the stock markets this year. Coupled with the cryptocurrency market, this number increases to approximately $9 trillion.
With the current market circle, now more than ever, investors are wondering what the best approach to investing in these troubling times is. Unfortunately, however, unless you are a fortune-teller, no one can really time the bottom of a bear market. We can however take advantage of the current market condition and apply the Dollar-Cost Averaging (DCA) investment strategy.
Dollar-Cost Averaging
Dollar-cost averaging (DCA) is an investing strategy where an investor invests a total sum of money in small increments over a period of time as opposed to investing all at once. DCA is designed to help offset any negative effect on an investment caused by short-term market volatility. For instance, if the price of an asset drops during the time you are dollar-cost averaging, then you stand to make a profit if the price moves back up.
DCA is the best approach for individuals who are not professional investors. It can save an investor a lot of effort trying to time the market in other to get the best prices. It is a tool for investing slowly and consistently and it aims to protect against the human tendency to want to gain all at once.
How it works
Applying dollar-cost averaging is very simple and you do not necessarily have to invest in dollars. The approach works well with any other currency. You first have to determine the total amount of money and the assets you wish to invest in. Then, instead of investing the money all at once, you invest it in small equal instalments over a specific length of time.
- Committing to this approach means, at times, you’ll be investing when the market or a particular asset has dropped in value. It also means there will be times when you’re buying during a market sell-off.
- Some risk-averse investors might not be encouraged to purchase securities during bear markets, but viewed from another perspective, buying bear markets allows you to invest in potentially profitable assets at significantly cheaper rates especially when they are below their intrinsic value.
- By buying when others might sell, dollar-cost averaging can potentially help you to reap the benefits of buying low and selling high.
With every golden strategy, there are downsides
- The most notable downside of DCA is the possibility that you might miss out on a large gain you could have earned if you had invested all your money at once when the market was down.
- That being said, we must remember that big profits require timing the market correctly which even not all professional investors can do. DCA is still a potentially safer way to take advantage of big market dips.
- Another downside will be increased transaction charges. Because of the transaction charges charged by many trading platforms, you’re going to incur more trading costs with a dollar-cost averaging strategy.
- A DCA strategy, over time, usually includes buying assets at any stage, whether it be stable, depreciating, or appreciating. If done consistently, a DCA strategy tends to lower your risk and does better over a long-time horizon.