What is DCA and why you should start right away
Dollar Cost Averaging (DCA) is a method of investing which is especially effective during bear markets. It consists of buying a fixed dollar amount of an asset, at regular intervals, regardless of price.
The benefit of DCA is that it spreads out the risks brought on by market volatility. This protects the investor from price swings while allowing them to profit from the market's general long-term trend. The investor does not commit all their capital at one price and all at once. Profitability is determined by the asset's long-term performance.
Here is a real-world dollar cost averaging (DCA) example that we can implement immediately – This is NOT investment advice.
Let’s presume that we have done our own research and want to invest $1000 in Bitcoin (BTC).
The original cryptocurrency, is a core component in cryptocurrency portfolios, characterized by high its liquidity, limited supply, and rapid adoption rate.
Bitcoin has retraced 70% from its all-time high to its current price of $20,000. It sits near the all-time high of the previous bull-run. Is now a good time to buy Bitcoin? No-one knows for sure. Some analysts predict that BTC could drop further to find support in the low 10,000s. Others, believe that the bottom is in and that we might be at the beginning of the next-bull run.
Putting all your money into the market at once could be risky. As previously indicated BTC could correct another 50% (or more) from current levels. Your $1,000 investment could shrink to $500. While it is possible to recoup your losses over time, you could have bought double the amount had you only waited longer.
There is also risk associated with staying idle and that is missing out on a potential profit. There’s even an acronym for the fear of staying put while the asset you had your eyes on is off to the races (yes, FOMO). This can be quite equally nerve raking for novice and experienced investors.
FACT: While fundamental and technical analysis, assessing market sentiment, and experience with past market cycles can help… It is impossible to consistently time the market.
This is where DCA strategy comes into play. It will eliminate the stress associated with continuously chasing the best price to buy an asset.
Instead of investing the $1000 as a lump sum (and hoping for the best), the capital is split into 20 equal portions of $50 and allocated over the 20 weeks that follow, at the same time every week, regardless of price.
To do this, you can sign in to XBO.com on every Friday evening at 6 P.M. and buy $50 worth of BTC at the current market price – no matter what!
Just head over to the spot trading section, select the pair of your choice and market order, enter the amount and click ‘Buy’.
(As an aside, the XBO.com platform rewards users for signing in regularly and for purchasing crypto. So, you can get benefits from the get-go. Check here for more information on the XBO.com Loyalty program)
Revisiting possible scenarios:
Q1. What if the bottom was already in and the price of Bitcoin starts recovering from here? A1. You were in the advantageous position to get in on the price movement while the market was low. Your average price is already lower than current market price.
Q2. What if the market heads south from here? A2. You have only started to deploy your capital; You will be able to buy at lower prices and invest more of your capital closer to the bottom.
In terms of capturing the bottom, let’s take this strategy one step further.
When near the bottom, markets often experience short-lived crashes, often accompanied by a quick (V-shaped) recovery. It would be ideal to capture any temporary down spike which might occur during an intraday fluctuation. It is unlikely that the “flash crash” will coincide with the moment you have chosen to DCA.
This is an event you need to be prepared for and not one that a beginner should react to. Trying to enter a position while the market is tumbling is challenging on several levels. There may be platform congestion because everybody is trying to do trade. Also, traders reacting to a crash tend to be emotionally charged – a big no-no for important financial decisions.
It is difficult to predict how low the price could fall, and there is a good chance that it will rebound rapidly. Hence the expression “Don’t try to catch a falling knife”.
So, what to do? Combine the dollar cost averaging strategy with a ‘Buy limit’ order.
A Buy Limit order is an order which specifies the maximum price that the buyer is willing to pay for an asset.
The trade will only take place if the price reaches your set price. In our hypothetical example, the trader could allocate 10% of their total budget ($100) to a limit order at $13,000 and another 10% at $12,000. It’s like casting a net well below the current price in hope of catching a surprise fluctuation.
You will find Limit orders in XBO.com under the XBO Spot trading tab.
In case you are wondering, DCA strategy can also be used to exit a position. If the price of an asset is getting too hot (overvalued), and you would feel safer securing a part of your gains, dollar cost averaging can be used to start taking profits. A progressively smaller portion of the investment remains in the market, to benefit from potential hyperbolic (moon) moves.
Don’t lose sleep risking the lot for max gains, “Nobody has ever gone broke taking profits”.
Obviously, DCA is not the only way to invest, nor is it always the most effective for maximizing profits. However, it is suitable for beginners and advanced investors, it takes away the stress of chasing price, and it is perfect for someone who can’t always keep their eyes on the charts.
Using the example above, if you started DCA-ing into Bitcoin 5 years ago, you would have spent $13,250, seen a 120% return, and would now be holding 1.374 BTC in your wallet.
There are several online resources for calculating the gains from DCA in crypto. Check out the results for various cryptocurrencies across different time periods. The outcomes will surprise you!
To recap, in order to implement DCA investing strategy with a limit order, you must make 3 simple decisions:
- How often do I want to add to my investment (weekly, monthly)
- How much am I comfortable allocating each time ($/t)
- At which price would I be willing to commit a larger portion of my capital (with a limit order)
Having conducted thorough research and established your plan of action from the start, you can let DCA strategy take over and do the heavy lifting. This gives you more time and mental clarity to concentrate on other investing choices (and enjoyable hobbies), while setting up a fund in your preferred cryptocurrency.
DCA into Bitcoin today, simply and securely with XBO.com
