Almost nobody can predict when the bottom arrives, except the pundits, who claim to have done so after the fact.
But they didn’t either.
I routinely make the suggestion to hold cash positions: for emergency funds and to take advantage of stocks that go on sale from time to time. Cash loses to inflation, of course, but it gains buying power as asset bubbles burst. And with the bums controlling government purse strings and the bums controlling the Federal Reserve printing presses, asset bubbles tend to grow and burst.
Cash is already doing work as an emergency fund. But as you accumulate it beyond emergency fund needs, how and when do you put cash to work? Invest it all at once and nothing is left for the downturn. Wait for the bottom and you will assuredly miss it, because the bottom is only visible in hindsight.
Stock forecasts are less accurate than weather forecasts
Friedrich Hayek explained that the knowledge needed to run an economy is scattered among millions of people, and changes by the minute. That’s why central planning is so lousy, because no one knows everything needed to optimize the supplies to meet the demands. Timing a market, or a market sector, or even an individual stock requires knowledge that is unobtainable to various degrees: what interest rates will do, what bureaucrats will do, what management will do, what the president will do, what terrorists will do. And all the things that might happen that you have never even considered. As for buying at the bottom? No committee knows the answer and neither do I.
So what to do?
Be happy every day in Dullsville
Dollar-cost averaging provides a nice boring answer. You convert a fixed number of currency units into assets at regular intervals, whatever the price. $200 converted to pooled gold every Friday. $200 traded for stock in a company every Monday. Dull.
Say a stock trades at $10, falls to $5, stays at $5, then climbs back to $10. You invest $100 at each of the four stops. You now own 60 shares, bought for $400, an average cost of $6.67. The price finished exactly where it started. But you are up 50%.
Your average cost is the harmonic mean of the prices paid, which is never higher than the plain average price of $7.50.
When prices rise, you are happy because your net worth has risen. When prices fall, the $200 buys more shares and you can be happy (albeit more quietly) because you get to buy more shares cheaper. Just imagine: as long as you always have your cash needs for the next year adequately stocked, you can be happy every day, regardless of which way the market is moving. Being happy is good.
Volatility is just fine
Volatility becomes your friend, as long as in the long run (or your planned time horizon), your stock prices go up. The investor who put everything in at once watches a falling market and feels the loss. The investor averaging in watches the same ticker tape and sees a sale. Same prices, same headline, opposite feeling. A down day makes it possible to convert the same amount of crappy dollars into a larger number of shares of a company that you want to own.
That changes how you feel during a correction, and how you feel through it decides whether you stay in. The investors who do the worst damage to themselves are those who sell in a panic. A disciplined dollar-cost averager has a plan for falling prices. Rather than joining the panic, he continues buying on schedule from those who are panicking.
Our preferred sectors sure have been volatile, which makes dollar-cost averaging wise in many cases.
The Cash Refills
Your cash does not have to shrink when you dollar-cost average. Several sources can refill it while you deploy.
Other income. Dividends, interest on the cash itself, and income from outside the portfolio, including your wage income.
Spending less. The cheapest source of cash is the dollar you decline to spend.
Options premiums. Selling cash-secured puts pays you to wait for a price you already wanted. If the put is assigned, you buy the stock at the strike you chose in advance, which is a tranche delivered on your terms. Selling covered calls on shares you own pays you while you hold them. The premiums you earn can be deployed in dollar-cost averaging.
Taking Casey Free Rides. When a position is worth double your cost basis, start thinking about taking your cost basis back out (selling half the shares). That restocks cash too.
Dollar-cost averaging into physical gold
Gold’s price reflects the trust the world places in politicians and paper currencies and the available real interest on other competing uses of the money. That trust is very hard to predict in the short term. Dollar-cost averaging doesn’t require you to have the faintest clue about the short term, as long as in the long term, you have confidence that gold will rise against the fiat currencies. It’s a damn good bet that politicians and bankers will continue to debase the currency as much as they can get away with.
But lest we forget, gold fell roughly 45% between 2011 and 2015. An investor who bought it all at the 2011 high waited nearly nine years to get even. One who bought a tranche every week or month through the decline held a much lower average cost when the price turned. Each scheduled purchase converted a depreciating dollar into money that cannot be printed. One caveat on this—for most people, dollar-cost averaging into gold ends up being pooled gold in a vault somewhere, not gold in your hands. So it is not the SHTF type of gold that you keep in your safe or buried in the ground.
What It Costs
It’s conservative. It’s cautious. But there are costs to dollar-cost averaging. Cash on the sidelines debases, while the stock market usually outruns it. Dollar-cost averaging means you may miss out on the return from sticking all your cash in at a low. But on the other hand, you avoid putting it all in at a high.
And then, dollar-cost averaging into a company headed to zero is just a somewhat slower way to lose it all.
So the work comes first. Junior resource stocks can swing 50% in either direction, which suits dollar-cost averaging, provided the company survives in the end. So pick companies that, in the long run, are likely to survive and thrive.
I choose to dollar-cost average into companies that I think have a good future, but for which my ability to predict their short term is poor. Like the drone companies I recommended dollar-cost averaging into by using the Options Wheel strategy (selling puts and calls to generate premiums that then get deployed to buy shares).
In contrast, I choose to place a stake all at once in a company when it is a speculation based on defined near-term catalysts.
You will find me frequently suggesting dollar-cost averaging into a stock pick. Personally, I dollar-cost average every single market day.
Paid subscribers receive a new recommendation most every month—sometimes speculations in which to buy a full position now, sometimes long-term investments to dollar-cost average into. If you are on the free list, consider upgrading.
Sincerely,
John Hunt, MD
Editor, Doug Casey’s Crisis Investing
boring always works in the long run. Sound advice for multi-generational investing.
Then maybe bump up the buying after prices have drastically fallen...50%-60%-70% or more. Then if prices begin to steady and then rise, ease back on the buying after significant gains have been seen. Unless you have an accumulation plan to start with (in terms of duration), you may be tempted to sell after a loss or sell after a gain...missing the bigger moves that occur over longer periods.