Quote: (01-26-2014 05:26 AM)Sugar Wrote:
So DCA is investing the same amount of money in an investment month over month, over a specific period of time, e.g. $200/month for 20 months?
Strictly speaking, yes. The idea is that if you have 100k to invest today there's a risk that you might put the 100k in and then the market tanks tomorrow and you'd lose 40% overnight. By splitting the investment up and investing it every week/month/quarter you can hedge against that risk. It turns out you actually get a slightly better return on average because by always putting in the same dollar amount you automatically buy more shares when the price is low and less when it's high. Most low cost brokerages and direct stock purchase plans wave transaction fees if you do a regular direct deposit so there's really no downside.
Now unless you just sold an asset or got an inheritance most people don't have a large sum of money to invest at once. Instead they just invest a fixed portion of their paycheck every pay period. This is basically what you do when you have a company match to your 401(k). There's some debate whether this is really a DCA strategy but the effect is the same.
The other strategy which can in theory work better is to do what's called Dollar Value Averaging. With DVA you make a reasonable expectation on how much the stock market should grow over each investment period. For instance you might say that the total market should grow roughly the same amount as inflation + GDP. In this strategy you keep a mixture of stocks and cash and you move cash in and out of your stock portfolio to make it match your expected growth. When the market goes down or doesn't grow as fast as expected you transfer of cash in to make up the difference but when it goes up faster than expected sell off stocks and put it back into your cash. If you do this in a 401(k) account you can usually avoid transaction feeds. It does require a little more vigilance and it's harder to stick to if you get emotional about your money.
A strategy in the middle is to pick an asset mix, say 85% stock, 5% metals, 5% bonds, 5% cash and then rebalance those ratios on a quarter or yearly basis. This way if the stock market is booming you're constantly selling off to maintain the asset mix but if it tanks you have reserves to buy when the price is low.
Check out "The Four Pillars of Investing" by William Bernstein if you want to learn more.