Dollar-cost averaging: what is DCA?

When it comes to investing, there are many approaches with different levels of risk. One excellent strategy is dollar-cost averaging, known as DCA, which has been used to build wealth over time. With this approach, buying assets at regular intervals ultimately removes the need to time the market precisely. While this may sound complicated, read on to learn more about this approach and how to apply it successfully to crypto investing.

What is dollar-cost averaging (DCA)?

Dollar-cost averaging (DCA) is a careful approach to investing. Instead of giving in to a wave of emotions, the investor chooses to spread their purchases over set time intervals. Through this gradual approach, capital enters the market in a way that smooths out the peaks and troughs, producing a more stable return. In short, DCA is great for beginner investors looking for a sensible approach without getting carried away by short-term market swings.

Who should use DCA?

Investing a fixed amount in an asset over the long term is a very effective strategy. It’s easier than complex short-term tactics, and it keeps ego and fear out of the picture. This way of investing works best when you stay in the market consistently. In fact, when the market is falling, this strategy can offer opportunities to buy at lower prices.

How does DCA work?

Before we get into the technical details, let’s imagine all the possible outcomes of an investment strategy. For example, if you invest €1,000 in shares worth €50 each, you can buy 20 shares. What happens if you sell at €40, €60 or €80?

The table above shows that the lump-sum approach works best when the investor spots the right moment to enter the market. It also means the right moment to sell has to be chosen carefully. Let’s compare this basic approach with the possible outcomes of a DCA strategy.

DCA in a bear market

The DCA method means buying shares proportionally over time. Assuming you invest €250 every month, you get more shares when prices are low and fewer when they are high. You can see what happens in the table below.

This strategy grows your investment in shares over time. Even if there were periods of losses, the average cost of the shares you bought helps generate profits.

DCA in a bull market

While cost averaging is an effective strategy during a bear market, it loses its power in a bull market. As your purchases gain value over time, spreading out your buys leads to fewer shares in total. For example, by splitting €1,000 equally across four purchases at share prices of €50, €65, €70 and €80, you end up with 15.5 shares. How does this approach affect your profits?

The table above clearly shows the significant drop in your investment’s profitability.

DCA in a consolidating market

The third scenario covers a situation where an asset’s value stays relatively stable over time. You won’t notice much change from dollar-cost averaging. For example, if you invest €250 at a time in an asset that moves roughly sideways over time (e.g. €50, €55, €40, €60), you’ll end up with 18.9 units in total, close to the 20 units bought with €1,000 at €50 each.

Is DCA suitable for crypto investing?

As you can see, dollar-cost averaging is suitable for any volatile asset class. DCA matters even more for crypto, because crypto prices are unpredictable and volatile. That’s why it’s recommended to use a DCA strategy to avoid getting caught by unpredictable price moves and to take advantage of market dips. You should, however, be careful during a rally so you don’t suffer significant losses. In particular, DCA is most effective during periods of falling prices, as it helps lower your average purchase price on each crypto buy.

How to use DCA with Bitcoin

To set up DCA for your Bitcoin investment, you can choose an exchange such as Binance, Coinbase, Gemini or Crypto.com. These exchanges offer recurring buys, where you set the frequency (daily, weekly, monthly) and the purchase amount. That way, you benefit from an automated approach.

If this feature isn’t available, you can create a manual buying schedule. You pick a fixed amount to invest at predetermined intervals. However, this approach requires more care and discipline from you, since it isn’t automatic and needs regular monitoring.

An example from August 2021 shows that if you had bought €10 worth of Bitcoin every week for 5 years, the amount invested would have grown from €2,610 to €38,650, an impressive 1,380% gain.

What are the benefits of DCA?

From the examples above, it seems safe to say that DCA in crypto increases profits by taking advantage of price drops. Other benefits include:

- It helps you avoid the risk of badly timed purchases.
- It eliminates emotional decision-making.
- It suits people looking for long-term investments.

What are the drawbacks of DCA?

The obvious drawback is higher transaction fees. This strategy involves multiple purchases, so transaction costs can add up, especially when you use crypto exchanges for fiat-to-crypto trades. Even so, depending on your profits and the length of the investment, you may not feel the impact of the extra overall cost of many purchases compared with one large purchase. There’s also the possibility of losses when the asset’s price keeps rising. The more purchase prices rise over time, the smaller the benefit of dollar-cost averaging as an investment strategy.

Conclusion

Dollar-cost averaging is a powerful approach for beginner investors who want to invest more safely and with less risk in a changing market. Reducing potential mistakes and keeping emotions in check help you achieve success.