Singaporeans greatly celebrate economic and practical choices when it comes to spending and greatly appreciate finding long-term investments with enormous benefits. With this in mind, Singaporeans and other practical Singaporean investors find dollar-cost averaging a suitable investment strategy for their first-time venture into investing.
Dollar-cost averaging takes away the struggles of market timing by using unit-cost averaging, which uses an asset’s average price as a huge part of its overall investing strategy.
Learn more about dollar-cost averaging in this short post.
What is Dollar-Cost Averaging?
Dollar-cost averaging is a technique used to reduce the impact of volatility by investing equal amounts of money at regular intervals. For example, an investor might invest S $200 in a mutual fund every month. Doing so would give the investor an average cost per share of S $10 for that month’s investment. This reduces the risk of buying at high prices and selling at low prices.
Dollar-cost averaging is a strategy that helps to alleviate some of the fear of investing in the stock market. It is also a great way to invest small amounts of money into the market. In addition, it disciplines many investors from having any fear of missing out on opportunities in the market, reducing their number of trades. It minimizes the chances of buying too many shares at peak prices.
Why Should You Adopt a Dollar Cost Averaging Strategy?
Dollar-cost averaging has helped many Singaporean investors succeed. Here are five reasons why any investor using it would endorse DCA.
Get Quickly Started on Investing
Dollar-cost averaging is a strategy that helps you buy more shares when prices are low and fewer shares when prices are high. It can reduce the impact of large fluctuations in share prices and maximize returns on small, initial investments.
Any investor can purchase S $100 worth of shares each month, making this instalment period bearable for many starting investors. These investors pay the same amount for 10 months spending S $1,000 in total.
As the investor in this example would have purchased 100 shares at the end of each month, they can get a S $1,000 valuation on the shares they bought after ten months. Thus, DCA has helped investors make a 10% return on their investment.
Reduce Market Risk
In most cases, investors will feel it inevitable to purchase high-quality stock at low prices in enormous amounts. Unfortunately, buying blue-chip shares at all-time lows does not guarantee huge profits, especially if the market those shares belong to has a poor long-term outlook.
Dollar-cost averaging prevents disastrous investments by buying only enough blue-chip shares while picking up other peak-priced shares during the same period. In doing so, the investor builds up a portfolio of blue-chip shares that balances out top-performing shares, generating stable and non-volatile income over time.
Lower Average Cost Per Share Over Time
Buying both low and peak-priced shares at any given period using dollar-cost averaging is a tried-and-proven strategy in mitigating risks. However, it also leads to a lower average cost per share over any given period because the average cost declines as the investor purchases more shares.
- On 10 December 2017, an investor purchased 10 shares at S $10 each for a total cost of S $100.
- On 2 January 2018, the investor bought 20 shares at S $13 each for a total cost of S $260.
- On 3 January 2018, the investor bought 3 shares at S $14 each for a total cost of S $28.
- On 4 January 2018, the investor buys 1 share at S $15 for a total cost of S $15.
The average cost is calculated by dividing the total cost (from January 2nd) by the number of shares purchased (from January 1st to December 10th):
S $100 / 20 shares = S $5 x S $260 / 10 shares = S $26.5$28 / 1 share = S $28
Reduced Emotional Investing
How does dollar cost averaging reduce emotional and impulse-based investing decisions?
Dollar-cost averaging is an investment strategy to reduce emotional and impulse-based investing decisions. By investing a set amount of money at a predetermined interval, an investor will buy more units when the price is lower and fewer units when the price is high. This helps to reduce the overall cost per unit of investment.
Dollar-cost averaging became popular primarily due to its use in index fund investing. It is an effective way to invest your money because during a down period, the purchase of fewer units is still better than spending your entire investment all at once; whereas during a rally the purchase of more units at that time would be beneficial.
Dollar-cost averaging is a strategy that consists of investing a fixed dollar amount at regular intervals. When prices are low, the investor purchases more shares, and when prices are high, they purchase fewer shares. This helps reduce the risk of investing too much in a volatile investment because it ensures that the investor will have a set sum to invest each time. In doing so, it creates exceptional financial discipline in the process.
Example of Dollar-Cost Averaging
An investor decided to use S $200,000 in equities and went for a dollar-cost averaging investment account over eight weeks. Every week, the investor deposited S $25,000. Here’s how DCA looks like in a table
|Weeks||Share Price||Number of Purchased Shares|
|Avg Share Price: S$82||Total: 2,437|
The investor purchased 2,437 shares with an average share price of S $82. Their total investment cost so far is S $199,834 using the average share price. If the market is declining, the shares they purchased will increase and decrease once the market performs otherwise.
What Are The Disadvantages of Dollar-Cost Average Investments?
While DCA does work in both an improving and declining market, it can affect an investment portfolio negatively if poorly used. Here are four cons to using it as part of your investment strategy.
Ballooning Transaction Costs
Since dollar-cost averaging requires you to buy a fixed dollar amount of shares each time you invest, say S $100, the average costs of all your investments will be the total sum of all the commissions you have to pay divided by the total number of investments. The systemic purchase of securities in small amounts over certain periods have investors run the risk of encountering high transaction costs that can offset all the gains your current assets gained. An ETF’s expense ratio, for example, can adversely affect your portfolio value for short to medium-term investments.
Sluggish Target Asset Allocation
Dollar-cost averaging is contrary to the time-proven strategy of target asset allocation that mitigates risk. Target asset allocation ensures that investors are shielded from economic changes through portfolio realignment and taking advantage of possible opportunities. With DCA, you buy both high and low peak-price shares, which slows down or even halts target asset allocation.
Low Risk, Low Returns
DCA is poor in performance because it is a low-risk strategy, which means it will not help with trading higher risk. A low-risk strategy or asset is bad for an investor’s portfolio because it provides a very low return on investment over time. By “playing it safe” purchasing both low and peak-priced shares, you can have accurate expense estimates but low guarantees for potential growth because the DCA portfolio lacks target asset allocation progress if you compare its timespan to a manually-realigned portfolio.
Negligible Lump-Sum Investment Difference
Investors use DCA to avoid lump-sum investment that requires an enormous amount of cash to use initially. DCA seems much more useful because you invest a very low cash minimum to get started investing. Plus, many investors use DCA because it controls their fear of missing out and impulsive investing.
However, the lower average cost per share gains you get through DCA by avoiding lump sum is occasionally negligible, which can be the purpose of avoiding lump-sum investing.
An Alternative: Use a Lump Sum Investment Strategy
A lump sum investment strategy is when an individual invests a large amount of capital at one point in time. The strategy works by investing all the money at once rather than over a period. The lump-sum investment strategy could be a good option for an individual who has a large amount of money to invest, often referred to as surplus funds, which they do not know what they will use because the lump sum investment strategy offers diversification by investing in different types of investments.
Lump-Sum vs. Dollar-Cost Averaging Passive Investment Strategy Comparison
DCA is a passive investment strategy that involves regularly investing a fixed amount of money in a particular investment vehicle over time. It is one of the most popular strategies for retirement savings because it can help to reduce the risk of investing in volatile markets. However, with the low risk you have to invest in it, it has a lower potential of returns.
Lump-Sum Investing is an alternative to DCA that involves investing all of the money at once, rather than gradually over time. Lump-Sum Investing may be riskier than Dollar Cost Averaging because there is less time for the market to recover from any downturns before you run out of funds.
More investing strategy ideas with value investing.
Our Final Thoughts
Dollar-cost averaging is a great tool to get started investing with minimal risks and understand the market. Investors who couldn’t work full-time to analyze the market or have worked as their priority can use this strategy to grow their portfolio and gain potentially huge returns thanks to the lower average cost per share and controlled investing.
- Dollar-cost averaging (DCA) works by putting a fixed amount of money in the market at regular intervals rather than one large lump sum. This contributes to buying more low-priced shares when the market is down and fewer high-priced shares when the market is up.
- Many investors used DCA to mitigate losses in index funds during low periods and purchase great amounts of shares during low peak-price periods.
- DCA does have some disadvantages, such as having an almost negligible difference between lump-sum payment profits. Paying a single investment sum reduces potential commissions and other expenses that DCA has.
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