What the heck is dollar cost averaging strategy and does it work?
Dollar cost averaging is a systematic strategy that allows you to buy more when price is cheap, buy less when price is high.
This is a popular strategy among stock investors as well as mutual fund investors.
In the long run your average buying price will be very favourable because you bought more when price is cheap.
I have gathered 10 years worth of stock market data, SP500, SGX, Shanghai Index and KLSE.
I simulated dollar cost averaging by buying into the stock index every month with RM300.
People always said dollar cost averaging is a good strategy, is it so?
Let’s look at the results.
The results… are mixed. If you bought SP500 10 years ago, you would have gained 70% on your investment.
However, if you bought KLSE or SGX, you end up losing money, 20% of it. Is all this effort worth it?
- the risk/reward ratio is still great. You get 70% upside and -20% downside, when risking the 20% you can potentially get 70%.
- Diversification is great for layman. I mean, if you don’t have the skills and knowledge needed to put your bets, diversification is a way to go.
- Stocks are still great for long term investment, this doesn’t count in where you buy more during dips, the results will certainly be better.
How can I buy the index? Through ETFs and mutual funds.
ETFs are great, they have low costs, tracks the index well,
however, ETFs in Malaysia are still premature, volumes are low, spreads are high (inefficient market makers).
The other option is mutual fund.
Most of them costs some charges, but their nature of open-ended funds, you can buy them using their NAV price, don’t have to worry about spreads and volume. They still serve as a good option for diversification.