Dollar cost averaging is... a lie?

[Texas Proud]

Actually (common usage aside) when people make regular fixed contributions from their pay check they are not dollar cost averaging. They are making a lump sum contribution as soon as the lump sum is available. They are following the high percentage probability that lump sum beats DCA.

In order to DCA a regular pay check lump sum, they would need to make regular investments of the pay check surplus spaced out periodically during the interval between paydays. Of course doing that would probably eliminate corporate matching dollars they might otherwise be eligible to receive. So DCAing a regular paycheck would be stupid for at least two reasons.

Dang.... said what I was going to say...

DCA is investing a lump sum over a period of time instead of at one time... if you invest your full lump sum each month, it looks like DCA and reacts like DCA, but is it really??

 

[yakers]

Dang.... said what I was going to say...

DCA is investing a lump sum over a period of time instead of at one time... if you invest your full lump sum each month, it looks like DCA and reacts like DCA, but is it really??

Yeah, it still is DCA because you could have saved up all the monthly amounts into one large lump sum.

 

[retire@40]

Isn't buying into IRAs a form of DCA?

If you put in a lump sum of $4K a year every year, aren't you DCA into your IRA?

 

[FinanceDude]

Actually (common usage aside) when people make regular fixed contributions from their pay check they are not dollar cost averaging. They are making a lump sum contribution as soon as the lump sum is available. They are following the high percentage probability that lump sum beats DCA.

In order to DCA a regular pay check lump sum, they would need to make regular investments of the pay check surplus spaced out periodically during the interval between paydays. Of course doing that would probably eliminate corporate matching dollars they might otherwise be eligible to receive. So DCAing a regular paycheck would be stupid for at least two reasons.

I disagree........in your world of DCA< we would have to have money systematically taken out of our paychecks every hour.............

DCA is a systematic investment on a regular basis with the same dollar amount going in. Despite the different variations on a theme, you will end up with a lower cost of investing than putting a lump sum in the market, particularly in volatile times.....

If your company matches, it's foolish NOT to participate in a 401K. Example:

You make $60,000 a year, and want to save 10% pre-tax, which is $6000 a year. On your first paycheck, you are taxed on $4500 instead of $5000, and save about 25% in taxes on that $500. If the company does a "normal match" (50% on the first 6%), you are getting the company to kick in 3%, or $15 a month for you. So let's look at the return:

$500 pre-tax, instead of about $665 after-tax which is a 25% "tax-savings" or "return"
$15 company match (a 3% match)

$515 a month into tax-deferred account..........

So you would have to invest around $680 after-tax to get the same "punch" as $500 into a 401K with a match............

I often refer to the 401K/403B as the "retirement first line of defense"

 

[slepyhed]

I am 100% convinced that lump sum beats DCA. Absolutely. Sign me up.

I expect to deposit about $300k between now and FIRE. My best choice is invest all $300k right now in one big lump sum.

Except that I don't have $300k right now. I have to go to work and earn it. Every time I get paid, some of my pay gets invested.

I do not make systematic investments on a regular basis because I believe in the power of DCA. I do it because I have no viable alternative.

 

[FinanceDude]

I am 100% convinced that lump sum beats DCA. Absolutely. Sign me up.

I expect to deposit about $300k between now and FIRE. My best choice is invest all $300k right now in one big lump sum.

Except that I don't have $300k right now. I have to go to work and earn it. Every time I get paid, some of my pay gets invested.

I do not make systematic investments on a regular basis because I believe in the power of DCA. I do it because I have no viable alternative.

Lump sum definitely beats DCA......because of the opportunity cost of having MORE int he market earlier...........

If you had $300K to invest, you WOULD WANT to invest it now, as that gives you the greatest amount of time to grow said dollars..........

Most folks do DCA because they don't have the big lump sum............

 

[sgeeeee]

I disagree........in your world of DCA< we would have to have money systematically taken out of our paychecks every hour.............

POE-TAE-TOE -- POE-TAH-TOE.

Do your really disagree with anything I've said, or do you want to change the definition I used?

 

[FinanceDude]

POE-TAE-TOE -- POE-TAH-TOE.

Do your really disagree with anything I've said, or do you want to change the definition I used?

Just having fun with you................. I disagree that there is no such thing as DCA, the success of DCA could be debated, but I believe DCA DOES EXIST.............

 

[pj86]

What I find very dangerous about those studies is that they assume the frequency of lump sum investments doesn't change over periods of bull vs bear market.

In reality, you are more likely to get a big lump sum (sale of house, bonus, even nicer gifts, ...) if the market is strong. (Only inheritance isn't like this.)

Therefore, although lump sum beats DCA 65% of the TIME, I think DCA beats lump sum investment more than half of REAL LIFE SITUATIONS.

Agreed?

 

[Robert the Red]

Simply taking the figures for DCA vs LS (1926-91):
* LS mean = 12.75% stdev = 22.81%
* DCA mean = 8.50% stdev = 13.21%
So DCA is less likely to 'win big' than LS, but is also less likely to 'lose big'. That is, LS is riskier with a bigger payoff. The image below shows the graphs of the corresonding normal distributions (red=LS, green=DCA). LS has a lot more area on the upside of DCA -- and on the downside. So there is a risk-reward tradeoff involved.

Which is why the vehemence expressed on this subject is silly -- different people have different ideas and feelings about tradeoffs. Sheesh.

 

[mickeyd]

It seems to me that even though a lump sum may me a better choice for an investor that has the option to lump it or DCA it, most of us do not have an option. In other words, we have no lump to lump sum.

DCA affords most working slobs a decent chance to invest on a regular basis that has wonderful long-term results. If it were not for DCAing (I never had a name for what I did 30 years ago) I would probably not have amassed the tidy sum that sits over there in my accounts in Valley Forge, PA.

 

[mathjak107]

quote: dca is a systematic investment on a regular basis with the same dollar amount going in. Despite the different variations on a theme, you will end up with a lower cost of investing than putting a lump sum in the market, particularly in volatile times.....


the numbers speak for themselves. the markets are up 67% of the time and down only 33%. its hard to find any periods of time this didnt hold true, therefore long term its damn near impossible for dca to work as well as lump sum

 

[chinaco]

For most of us it is a moot point. We DCA because we do not have a Lump Sum. We contribute paycheck to paycheck.


There can be good reasons for using DCA. Especially when moving large amounts from one asset (or asset class) to another. But in my opinion, it is a defensive strategy rather than one for increase gain.

On Lump Sum vs DCA. I have sidelined money during bear markets and moved the money back into the market in chunks (fear the market was not quite ready for a rebound). I did this as a defensive strategy. I would have been better off moving in all in at once... but I cannot read the future!

The other factor that can enter into decisions is taxes. I have move money over several years because cashing out of an investment all at once would have had AMT implications.

IMHO -On moving form one investment to another (like investment)... in general one should just be able to move it. Essentially, one is just reallocating funds. Best to deploy it as soon as possible.

 

[mathjak107]

whether to dca or not only applys to someone who has the money and a choice.

the worst performance will be someone who dca's into a target fund.

you have two negatives against you. the fact that over time the market is moving higher and higher while at the same time the fund is cutting equity exposure over time. end result is a investment thats far more conservative than you may have wanted.

 

[pj86]

Simply taking the figures for DCA vs LS (1926-91):
* LS mean = 12.75% stdev = 22.81%
* DCA mean = 8.50% stdev = 13.21%
So DCA is less likely to 'win big' than LS, but is also less likely to 'lose big'. That is, LS is riskier with a bigger payoff. The image below shows the graphs of the corresonding normal distributions (red=LS, green=DCA). LS has a lot more area on the upside of DCA -- and on the downside. So there is a risk-reward tradeoff involved.

Which is why the vehemence expressed on this subject is silly -- different people have different ideas and feelings about tradeoffs. Sheesh.

Thank you for this info. Do you want to share your sources?

 

[haha]

Therefore, although lump sum beats DCA 65% of the TIME, I think DCA beats lump sum investment more than half of REAL LIFE SITUATIONS.

Sorry; we prefer to ignore real life.

Ha

 

[Robert the Red]

Thank you for this info. Do you want to share your sources?

The numbers are from the article linked to earlier (DCA monthly 12 times vs all-at-once at the beginning of a year):

http://www.fpanet.org/journal/articles/2004_Issues/jfp0604-art11.cfm

One could play with the figures a little, but the message stays the same: lump sum has a higher mean return and a higher variance than DCA. Which is probably (my guess) why advisors lean toward recommending DCA'ing a sudden acquisition of cash -- the probability of painful loss is lower, and they figure their clients will be likely to depart rapidly if a 10% decline hits them suddenly.

If you are investing for 10 years (say), then it won't really matter if you DCA'd over the first 12 months or not.

 

[pj86]

Sorry; we prefer to ignore real life.

Ha

That is often so tempting, isn't it

 

[starter82]

For me, DCA isn't adding money to an investment tool on a fixed schedule. It only applies when you actually have a lump sum that can be invested at once, not the income trickle.