Investments are broadly categorized into two types: short-term and long-term. The short-term investment makes the most out of its short-term utility such as trading, exchanging, etc. The span generally ranges from one day to 1 year. The long-term investment enters into its fundamental purpose of an asset, and also sometimes becomes a part of reserve money, and also becomes a part of Governance. The span is generally considered for at least 5 years. In crypto nomenclature, we can also consider one cycle as the min span of long-term investment.
In traditional terms, we can say long-term investments enter the primary sector of crypto. For instance, it becomes a part of the stake, which plays a vital role in its governance and inflation(if any).
We all are familiar with the nomenclature: technical and fundamental trading, we may not be an expert though. And it is unfair to have an assumption that everyone who enters crypto has certain expertise of investment. In fact, in the trading realm, the community of successful traders is very few. But the community of successful HODLERS is sizeable.
You can have zero knowledge of trading, but you can still be a part of the investment. The simplest and most well-established convention of investment strategy for the layman is the Dollar Cost Averaging method. With this method, you dont need to be a TA expert, you dont have to be bothered about the day-to-day volatility and the psychological insecurity thereof.
Dollar-Cost Averaging(DCA)
Crypto by nature is volatile and volatility makes an investor fearful even though he might be able to make a sizeable chunk of profit in a very short span of time. He/she could also incur loss trading such rapid and volatile movement of an asset.
So an investor, precisely who has a long-term plan, is tempted by the volatility, yet at the same time, seeks to shield himself from the short-term rapid movement. The Dollar Cost Averaging method is the ideal strategy in such a case.
Since it is mostly suitable for long-term investors, DCA does not get bothered by the price(and short-term volatility), what it underscores is the time interval.
So an investor using the DCA method should ideally break down the capital into smaller units and should strategize a time interval, and accordingly keep on investing at each time interval. By doing so it will not be affected by the short-term volatility and the noise and chaotic plot of the chart smoothens out using the DCA method. Ultimately, the average cost of investment becomes such an average move that in the long term the price has a tendency to trade above that line, thereby generating profit for the investor.
Note- DCA method can also be applicable to Stocks, commodities, and other traditional assets.
Let's mathematically take some data of Bitcoin, and evaluate what the DCA method produces in assets like Bitcoin.
Example-1: Bitcoin: DCA Method- Time interval- 1 year, Investment Span- 10 years
Let's say the investor has 1000 USD, and he wants to invest 100 USD each year in the month of Jan. He starts from the year 2013 and continued until Jan 2022.
So the investment amount each year= is 100 USD
Let's organize this in a tabulated format and let's see how much the net average value he gets at the end of Jan 2022, also let's compare where does it stand now, whether in profit or loss or break-even.
The 1000 USD investment(gross) with investment units of 100 USD each in every year(Jan) by DCA method acquired a net quantity of 8.2415 BTC in a total span of 10 years.
At the end of the investment span, the total value of 1000 USD turned out to be 3,94,784 USD which is 394 times the original investment.
The current BTC price(27/11/2022)- 16,500 USD
=> Total value of 8.2415 BTC (today)= 8.2415 * 16500= 1,35,984 USD
A 1000 USD investment by the DCA method produces 135 times the value of the investment as of today and 394 times at the end of the investment span.
Source: Coinmarketcap. Bitcoin Chart-All time
Investment by DCA method over a span of 10 years: Time interval- 1 Year
What do we infer?
- The longer the span, the better the position to absorb the rapid movement and the better the average value in itself.
- Choosing a particular asset that is fundamentally strong is also an important element of making an investment. In this example, BTC produces an outstanding result because Crypto was born with BTC, so the prospect was arguably bright in all given scenarios.
DCA is a method of investment, but we can not afford to expect this to work in any given coin. For instance, the fallout of LUNA was a fundamental trigger, and similarly, the macro headwind amidst the fallout of FTX was another loophole. So before deciding to apply the DCA method we must ascertain the overall fundamental picture of an asset before jumping into it. Because in cases like LUNA or FTX, no method can protect from a loss.
Let's take another example with a relatively shorter span.
Example-2: Bitcoin: DCA Method- Time interval- 6 months, Investment Span- 5 years
Let's say the investor has 1000 USD, and he wants to invest 100 USD every 6 months, for a total span of 5 years. He starts in the year 2017(July) and continued until Jan 2022.
The 1000 USD investment(gross) with investment units of 100 USD each in every 6 months by DCA method acquired a net quantity of 0.13274 BTC in a total span of 10 years.
At the end of the investment span, the total value of 1000 USD turned out to be 6358 USD which is 6 times the original investment.
The current BTC price(27/11/2022)- 16,500 USD
=> Total value of 0.13274 BTC (today)= 0.13274 * 16500= 2190 USD
A 1000 USD investment by the DCA method produces 2.1 times as of today and 6 times at the end of the investment span.
Source: Coinmarketcap. Bitcoin Chart-from 2017-2022
Investment by DCA method over a span of 5 years: Time interval- 6 months
Example-3: Bitcoin: DCA Method- Time interval- monthly, Investment Span- 10 months
Let's say the investor has 1000 USD, and he wants to invest 100 USD every month, for a total span of 10 months. He starts in the year 2021(April) and continued until Jan 2022.
The 1000 USD investment(gross) with investment units of 100 USD each in every month by DCA method acquired a net quantity of 0.02124 BTC in a total span of 10 months.
At the end of the investment span, the total value of 1000 USD turned out to be 1012 USD which is just at breakeven.
The current BTC price(27/11/2022)- 16,500 USD
=> Total value of 0.02124 BTC (today)= 0.02124 * 16500= 350 USD
A 1000 USD investment by the DCA method incurred a loss of 650 USD if we account for the value of the investment today and just at breakeven at the end of the investment span.
Source: Coinmarketcap. Bitcoin Chart-from 2021-2022
Investment by DCA method over a span of 10 months: Time interval- monthly
What do we infer?
- In the short term, the return on investment is not that big, and in the near term, it may be diminishing.
- Even though we dont need to be an expert traders, we should have a macro picture of the overall trend in the market, at least we should be able to know whether a bull cycle is playing out or a bear cycle. Accordingly, we should apply the DCA method. And in the bear run, even if we apply the DCA strategy we are not in loss on a gross basis, because eventually, we can average out the price when the price starts consolidating at the bottom range.
Pros & Cons of DCA Strategy
Pros
- It is as simple as an average, which means you dont need any high-end strategy to contemplate on timing an entry.
- Since timing an entry is an expert's skill, it may not be that general for a newcomer or average trader, so DCA strategy makes it more general for all.
- An investor remains unabated by the short-term noise, chaos, and volatility.
- The DCA strategy complements the long terms plan, it nicely smoothens out the curve and exalts the potential Rerun on Investments.
- It saves a lot of time for the investors.
- It can work best for those assets that further offer layer 2 benefits, staking opportunity because it will be a store of value+utility value. The utility value will be an immediate reward one will get while the store of value will increase by leaps and bounds with successive cycles.
Cons
- In the very near term DCA may not be an ideal strategy.
- In extremely steep trends and spikes, it may not be recommended. So ideally one should plan for the long term to absorb such noise.
- The choice of a particular asset is paramount before applying the DCA method. DCA in itself is not a holy grail method if the coin/asset itself is fundamentally poor or questionable.
- One does not need to be an expert, that's true, but a basic understanding, general trend, and general awareness of the ongoing events around Crypto or the assets under consideration are required to make an informed choice.
Conclusion
Short-term trading always involves emotions and may not be healthy for all kinds of traders. But for an investment perspective, we have the much widely accepted thing, which is HODL. If we further take the DCA method into account, then it certainly complements HODL.
The pros of the DCA method clearly outweigh the cons and most importantly as we have practically deduced that in the long term DCA method exalts the ROI potential.
Finally, if you are one among them, who dont have sufficient time to get into the finer details of crypto/assets of your choice, if you are not an expert to time the market, if you want to get rid of short-term volatility, if you want to make the things simple, then Dollar-Cost -Averaging(DCA) should be the go-to method and it's more general than any other method which lowers the barrier to entry.
TA- Technical Analysis
DCA- Dollar Cost Averaging
Note- Unless otherwise stated, all the infographics are created by me using suitable tools/applications. Data have been taken from Coinmarketcap. com
Disclaimer:- This article is intended for educational and analytical purposes only. It should not be construed as financial advice. Thank you.