Why Dollar Cost Averaging (DCA) is a mental accounting bias and should never be used [vs. lump sum]

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alluringreality
Posts: 230
Joined: Tue Nov 12, 2019 10:59 am

Re: Why Dollar Cost Averaging (DCA) is a mental accounting bias and should never be used [vs. lump sum]

Post by alluringreality » Tue Jun 30, 2020 9:27 am

tadamsmar wrote:
Tue Jun 30, 2020 8:14 am
Under what circumstances would you dollar cost average a lump sum into your asset allocation?
Generally I prefer tax advantaged accounts, and the only option available for attempting to move taxable assets into my 401k is through DCA, similar to the first link below. Yesterday I had the audio for Unconventional Success playing in the background again, and I noticed there was the following comment in the chapter 7 REIT discussion where Green Street Advisors was mentioned: "Careful investors employ dollar-cost averaging to enter and exit markets that deviate measurably from fair value."
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Targeting: 15% I Bonds, 15% EE Bonds, 45% US Stock (Mid & Small Tilt), 25% Ex-US Stock (Small Tilt)

nigel_ht
Posts: 875
Joined: Tue Jan 01, 2019 10:14 am

Re: Why Dollar Cost Averaging (DCA) is a mental accounting bias and should never be used [vs. lump sum]

Post by nigel_ht » Tue Jun 30, 2020 11:38 am

tadamsmar wrote:
Tue Jun 30, 2020 8:14 am
I was thinking about asking this question on another thread. But I hate the idea of starting another DCA vs LS thread. The question is:

Under what circumstances would you dollar cost average a lump sum into your asset allocation?

I think the question may be a little unclear since I don't think DCA has the same meaning for all. By DCA I mean commit to and follow a rigid schedule, for instance invest 1/12 of the LS each month for 12 months.

But maybe others would do something similar. Please be crystal clear about what you mean by DCA.

Here's my answer: I would never DCA a LS. But I can see myself hesitating to invest a LS immediately in some circumstances. The wiki has a page on managing a windfall: https://www.bogleheads.org/wiki/Managing_a_windfall
I elected to do a DCA vs this advice:

“Do nothing rash. Set aside one year's living expenses and place the rest of the windfall into low risk investments (FDIC insured accounts, money market funds, treasury bills) for one year.”

I think that advice is good though...I do not believe that many folks will have a good understanding of where they are after a windfall especially when younger. Maybe it won’t take a year but I think several months is a good minimum.

For me it put me immediately at my retirement goal and I had to think about whether to retire or keep to the same schedule. I elected to keep working but changed my new target AA to more retirement like.

DCA allows me more time in market vs waiting a year to lump sum. Since I set my DCA to 50/50 I could change it to pretty much any likely target AA without needing to sell anything and just changing the last 6 months of tranches.

ValuationsMatter
Posts: 340
Joined: Mon Mar 09, 2020 2:12 am

Re: Why Dollar Cost Averaging (DCA) is a mental accounting bias and should never be used [vs. lump sum]

Post by ValuationsMatter » Thu Jul 02, 2020 10:17 am

I have a lot of reading to catch up on in this thread, and I do actually intend to read all of the posted scholarly articles. The thing is, I know for statistical fact that DCAing reduces the effect of the daily swings from the average price of purchase. When we are having 3-12% daily swings like back in March, I'm definitely going to DCA. In flatter terrain, I'd still probably do so over several days to mitigate the ~1% daily SD, at the expected expense of 0.037%/day. If it turns out that there is a reasonable way to calculate some optimum AA that takes care of the daily variance over the lifetime of the investment, it must then require knowledge of the length of the investment, an expectation of said variance not just in the short term but over the whole length, and if I have all of those necessary inputs and formulas to determine all the correctly reduced AA.......... then I'll lump-sum instead of the DCA approach. But, I'm a ORSA, and that seems like a PITA to me, let alone for mere mathematical mortals. 99% of people out there are not going to go through the trouble. They've already picked their 'optimum' AA by divine inspiration, and the decision to or not to DCA is not going to affected by the desire to mitigate short term variance. If they know about and are worried about a higher than normal volatility in the market, It would probably just be easier (better) to DCA.

To answer the request for definition: I would define DCA as any partial investments of the money one currently has & intends to invest in totality and could invest immediately. DCA can be a market timing play, or it can follow a strict time-only schedule, which I would not consider market timing, unless the schedule is based on an expectation of the direction the market will take.

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