This educational guide exploring How To Protect Crypto Assets in a Bear Market was created in conjunction with Caleb & Brown. Caleb & Brown is the world’s leading cryptocurrency brokerage. Learn more here.
With so much diversity in the ways successful investors have made their fortunes on Wall Street, it is hard to come to a consensus on what comprises sound investment advice.
What appears to be excellent advice to a value investor, for example, may be considered a death sentence to a growth investor. Similarly, some practices that day traders consider sacred could never be replicated by swing traders.
Despite the countless and contrasting opinions, there’s perhaps one idea that most successful investors would agree on: To be a successful investor, you often have to exhibit behaviors that go against human nature.
For value investors, this could mean holding onto losing positions while waiting for economic conditions to improve. For growth investors, this could mean cutting losses immediately when a stop is triggered. For traders, it could mean buying as the stock has made a new high instead of waiting for “bargain” prices (William O’Neil is famous for advocating this behavior in his book ‘How To Make Money in Stocks’).
These activities are all difficult because they go against human instincts. It is not instinctive to accept being wrong with grace, to patiently wait for opportunities to arise while watching others play, or to buy a product you could have gotten cheaper at another time, but successful traders exhibit these behaviors all the time.
In the world of value investing, one such behavior is dollar-cost averaging, and one of its biggest proponents is billionaire business magnate Warren Buffett.
What Is Dollar-Cost Averaging?
Dollar-cost averaging (DCA) is the practice of systematically investing equal amounts of money at regular intervals, regardless of the price of the asset.
This method is championed by value investors, like Warren Buffett, who choose to invest in companies that meet certain fundamental criteria and bet on them long-term. DCA can lower the overall impact of price volatility by decreasing the investor’s average cost per share and avoiding the risky and stressful game of bottom-hunting.
Consider the following example:
Hal purchases 100 shares of XYZ Company at $10. As XYZ Company drops to $9, Hal purchases another 100 shares. At $8, Hal purchases yet another 100 shares. At this point, Hal holds 300 shares of XYZ Company at an average price of $9 (8+9+10)/3). If the stock rises to $9, Hal will be breakeven on the trade, while an investor who simply purchased 100 shares at $10 will be down $100.
Continuing the example above — if Hal continues to buy shares as XYZ Company oscillates between $8 and $10, and then XYZ Company rises to $15, the investor will suddenly have a significantly larger profit than the investor who placed a one-time purchase at $10. Thus, DCA also allows investors to accumulate substantial positions, potentially at a cheaper average price.
The two most important factors of DCA are the conviction in the asset the investor is dollar-cost averaging into and the time horizon they have set for the DCA process. Many professionals advise investors to DCA into the most secure investment vehicles like the SPDR S&P 500 ETF SPY or the Nasdaq Composite Index (INDEXNASDAQ: .IXIC) over an extended period of time — usually five to 10 years.
A finding by Official Data shows that dollar-cost averaging $100 per month into the S&P 500 from 1900 to 2022 would have yielded about $7.6 million. Because of its ease and simplicity, DCA has been hailed by many as a default mode of wealth generation.
Warren Buffett famously says, “If you like spending six to eight hours per week working on investments, do it. If you don’t, then dollar-cost average into index funds.”
Considerations In A Bear Market
With 2022’s bearish stamp on the equities and cryptocurrency markets, investors may be wondering whether it’s an appropriate time to start their own DCA streams.
It should be noted that while DCA could reduce volatility and help investors build for the future, each person’s risk tolerance is different. The best practice for those who do not call finance a profession is to consult a professional as to whether this is the best course of action for you.
Luckily, several traditional equities brokerages and banks like Toronto-Dominion Bank TD and Interactive Brokers Group Inc. IBKR provide DCA options. As the world’s leading cryptocurrency brokerage, Caleb & Brown also offers investors insight into the DCA process with a specific and expert focus on the cryptocurrency space.
If you’re planning on investing in Bitcoin (BTC), Ethereum (ETH) or any other cryptocurrency in the 2022 market and you’re considering DCA as a potential strategy, head over to Caleb & Brown and connect with your very own personal broker. Click here to get started.
Interested in learning more about the things to keep in mind in a bear market? Check out the previous article in this series here.
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