No one can predict where the Bitcoin price will be a few months --or years-- down the line, as is the case with any other asset.
By following a simple and well known investing method called Dollar-Cost Averaging (DCA), investors can protect themselves against fluctuations and downside risk.
What is dollar-cost averaging?
Dollar-cost averaging (DCA) is an investment technique of buying fixed amounts of a particular asset on a regular schedule, regardless of the price. The investor purchases more of the asset when prices are low and less when prices are high, but always the same fixed currency amount.
When does DCA make sense?
With dollar-cost averaging, you take a lot of the emotion and fear out of investing because you are more focused on a long-term strategy. You are less concerned with the immediate ups and downs, as long as you stick to a regular investment plan.
Example 1 - Lump sum
Let’s say at the beginning of the year you put $120,000 into Bitcoin, which was then trading at $400 USD per 1 BTC . You thus bought 300 Bitcoins ($120,000/ $400).
By the end of the year, the price increased to $450. In this example, your ROI is 13% (you made $15,000 in profit since you owned 300 Bitcoins and the price in Dec ‘16 was $450 ($450 * 300 BTC = $135,000)
Example 2 - DCA
Instead, let’s say you evenly bought $10,000 of Bitcoin per month over twelve months, no matter what the price was at that time. When the Bitcoin price went down, you ended up buying more units, and when it went up, you purchased less. But the total amount you spent is still $120,000, same as in Example 1.
In this scenario, you ended up buying a total of 320.78 Bitcoins, because you consistently bought (and in this example, bought when the price went down).
And now the value of your portfolio at the end of the year would be 320.78 x $450 = $144,352. You have made a profit of $24,352, resulting in an ROI of 20% (7% more than the previous case).
With dollar cost averaging, you can reduce market risk and build your Bitcoin investments over time, regardless of where the market is going.
Key things to keep in mind
- Dollar cost averaging is a strategy that is better suited for investors with a lower risk tolerance and a long-term investment horizon.
- This strategy makes the most sense when used over a long period time with volatile investments such as Bitcoin.
- The strategy is no guarantee of good returns on your investment. The whole idea is to take emotion out of the picture and have a long term view.
- Bitcoin is the perfect asset to try dollar cost averaging. Prices are somewhat more volatile than other assets and most investors bank on the long term prospects of Bitcoin.
No investment strategy is foolproof and it is important that one be open to ideas and test out various possibilities.
All the best averaging your Bitcoin investment!