Smart position sizing & risk management

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Risk Management

Dollar Cost Averaging (DCA)

Investing a fixed dollar amount at regular intervals regardless of price. Reduces the impact of volatility by buying more shares when prices are low and fewer when prices are high.

What is Dollar Cost Averaging?

Dollar cost averaging (DCA) means investing the same dollar amount into a stock or fund on a regular schedule (weekly, biweekly, monthly) regardless of what the price is doing. When the price is low, your fixed amount buys more shares. When the price is high, it buys fewer. Over time, this averages out your cost per share.

Example

You invest $500 into SPY every month:

  • January: SPY at $500, you buy 1.0 share
  • February: SPY drops to $450, you buy 1.11 shares
  • March: SPY rises to $520, you buy 0.96 shares

After three months you have 3.07 shares at an average cost of $488.60, which is lower than the average price of $490.

DCA vs lump sum

  • DCA: lower risk of buying at a bad time. Smooths out volatility. Best for people who want to invest consistently without timing the market
  • Lump sum: statistically outperforms DCA about two-thirds of the time because markets tend to go up. But it exposes you to the risk of investing everything right before a crash

DCA vs averaging down

DCA is a predetermined schedule applied to investments you plan to hold long term. Averaging down is adding to a losing position in hopes of a recovery. DCA is a plan. Averaging down is often a reaction. See Average Down for the distinction.

DCA is the strategy behind every 401k auto-contribution. You invest the same amount every paycheck and let time and consistency do the work. It is boring and it works.

Related Terms

Average Down

Buying more shares of a stock you already own after the price drops, lowering your average cost per share. Can reduce your break-even price but also increases your exposure to a losing position.