In an iconic scene from the 1973 action movie “Enter the Dragon,” a burly thug asks the protagonist, played by martial-arts legend Bruce Lee, what fighting style he uses.
“You could call it ‘the art of fighting without fighting,’” Lee’s character answers.
The brute, who has been terrorizing crew members on the crowded deck of a ship midjourney, asks the hero to demonstrate this style. Lee suggests they take a rowboat to a nearby island where there’s more room to spar. The bully climbs down from the deck onto the rowboat. Lee pretends to follow, but instead grabs the rope tethering the rowboat to the ship, lets the line go slack, and hands it to the crew members, who laugh at the livid oaf now at their mercy.
The $900 billion global cryptocurrency markets can be as rough as a fighting tournament, but for investors with patience and discipline there’s a similarly subtle strategy available. It’s known as dollar-cost averaging (DCA). You could call it the art of trading without trading.
This article is part of CoinDesk’s Trading Week series.
Depending on the asset and an investor’s time horizon, DCA can be more profitable than attempting to buy low and sell high, as active (or compulsive) traders do. What’s more, practicing DCA might help you preserve your sanity.
What is dollar-cost averaging?
To be clear, DCA is a method of trading, and among crypto users, particularly bitcoin (BTC) holders, it has come to mean something slightly different than in mainstream financial markets.
Broadly, dollar-cost averaging means buying (or selling) the same dollar amount of an asset at regular intervals, disregarding short-term price movements – rather than buying (or selling) the entire lump sum when you think the market has bottomed (or peaked). As the name suggests, on average you should, in theory, pay less in dollar terms for the investment over the long run than if you had tried to time the market.
“To dollar-cost average in or out of a position is a way to execute a trade,” said Cory Klippsten, CEO of Swan Bitcoin, a financial services firm catering to BTC die-hards. “Traditionally, you would accumulate using dollar-cost averaging in a bear market, and you would … sell out of a position in a bull market using dollar-cost averaging.”
However, for dedicated BTC investors, DCA goes only one way.
“We use it in the bitcoin space to mean automatic recurring purchases … regardless of bull market or bear market,” said Klippsten, a bit ruefully.
“I fought against the term for two years,” said Klippsten, who prefers “recurring buys” or “auto DCA” to distinguish this behavior from its old Wall Street namesake. “But, you know, I lost.”
‘Set it and forget it’
That’s not to say he doesn’t advocate recurring bitcoin buys; on the contrary, helping people make them is Swan’s bread and butter.
“The thesis behind the whole company … is that you'll end up owning way more bitcoin if you ‘set it and forget it,’” Klippsten said. “The person who buys a ton of bitcoin at $60,000” – near the all-time high achieved a year ago – “is much much more likely to sell it at [the recent level of] $20,000 than someone that's just on a steady accumulation program and is actually kind of sanguine and almost happy and peaceful about the price being down because they're getting to buy more bitcoin for the same number of dollars.”
The big idea behind DCA, whether the traditional or bitcoiner version, is that for individual investors trying to outsmart the market, in pretty much any financial asset, is a fool’s errand.
“In a lot of markets, the people who trade most suboptimally are retail investors who check the price a lot and trade a lot,” said Byrne Hobart, writer of The Diff, a popular financial newsletter. “They turn out to do that in fairly predictable ways.”
Hence, the quantitative analysts employed by professional trading desks spend much of their time “looking at different kinds of seasonal patterns and intraday patterns and realizing this is when retail investors become less price sensitive and really move things,” Hobart said. “So you don't want to be the source of somebody else's alpha,” i.e., their above-market returns. “And one way to avoid that is just [investing] systematically.”
This is as true in crypto as in stocks, Klippsten argued.
“You’re going against 24-7 markets and all these sophisticated desks,” he said. “You’re trading against Alameda and Jump and SAC. Those guys all make fun of click traders” – the plebeians who execute their trades with a keyboard or mouse. “Real traders, in crypto and financial markets … have their computers placing all the trades and eating your margin and arbitraging everything away.”
What asset, and for how long?
To commit to dollar-cost averaging, you need to have reason to believe the asset you select will appreciate over time, even if its price whipsaws from day to day. Simply setting up recurring buys is no substitute for due diligence. It always bears repeating: Investors need to do their research.
“You have to buy what you know,” said Klippsten. “Unless you have deep conviction about bitcoin, you can’t buy and hold this stuff very well” and are liable to sell in a panic when the price dips.
A self-described bitcoiner (he considers the oft-used term “bitcoin maximalist” an epithet), Klippsten sees the original cryptocurrency as the only one suitable for dollar-cost averaging. “I don’t think any non-bitcoin crypto will be around for the long term,” he said. “So it doesn't make any sense to be accumulating these things. They're there for trading, or for pumping and dumping.”
Even if you disagree on that score, the broader point stands that DCA has to be undertaken in service of an investment thesis. If a cryptocurrency’s main selling point is a cute dog mascot, for example, or if it has the word “baby” in the name, it’s probably not a candidate for this strategy.
“Part of what you're doing with dollar-cost averaging is you're deciding what is the investable universe of meaningful tokens that are not actually going to go to zero,” said Hobart. “Most people in crypto sort of agree partway with the total crypto skeptics that a lot of this stuff is going to zero. Not every token is a winner.”
Further, even for assets that perform in the long run, profitability depends on the investor’s time horizon. According to an online calculator provided by trading platform Uphold, an investor who bought $100 worth of bitcoin a month starting two years ago, investing a total of $2,400, would now be down about 37%.
However, if the investor started the same strategy a year earlier, in October 2019, she’d be up 20% on the $3,600 she put in – and if she’d started a decade ago, her $12,000 investment would have skyrocketed over 5,000%.
Timing isn’t just an issue for when to buy, but also in the life cycle of the buyer.
“The people for whom dollar-cost averaging in crypto would have the most appeal are people who are young and are willing to take risks, but they know that the bulk of their earnings, the bulk of their savings, are happening far in the future. So it's OK if things dropped by half,” said Hobart. “Whereas if someone is retiring next year, and 100% of their savings go into dollar-cost averaging crypto … well, you know, there have been a lot of pretty fearsome drawdowns. And so that's probably not the right time or the right approach.”
The limits of autopilot
There are other big-picture considerations.
“Question No. 1 is, what is your portfolio strategy?” said Richard S. Bookbinder, a 40-year Wall Street veteran who helped found the middle-market investment bank Sandler O’Neill. “Whether it’s Apple or bitcoin, how much of it do you want to own? When would you be willing to add more to it? What is your optimal size threshold for pain in that position and how large would you like it to be in your portfolio?”
That, in turn, suggests that even when embarking on DCA, investors can’t go on autopilot, and that as new information comes in they may need to update their priors and adjust their strategy accordingly.
“When assets go down, people become very, very fearful and in most cases that's the wrong time to sell the position – or to do nothing at all,” said Bookbinder, now an adjunct professor and distinguished executive-in-residence at Washington College in Chestertown, Maryland. Investors like to tell themselves the price always comes back, but “as we've learned so often, that's not necessarily the case.”
“Adjusting” does not necessarily mean “panic selling.” Investors could simply lighten up on the buying if they have new reason to doubt their thesis (or ramp it up, if they are convinced the sell-off is temporary and they have an opportunity to lower the cost basis).
In other words, an investment thesis does not demand the same level of devotion as getting married or joining the French Foreign Legion.
“One of the things that I tell students all the time is that in investing you have to be agnostic,” Bookbinder said. It would be naive to buy a stock “because ‘I like the product, it's nice to touch and hold and feel’ – forget about that! Is this company going to be a business in five years, in 10 years? What does its balance sheet look like? What's the management team?”
Make a list
The Diff’s Hobart recommends that before dollar-cost averaging, crypto investors make a list of events that would make them want to stop accumulating the asset. For some, the dealbreaker might be a “flippening” (ether, the No. 2 cryptocurrency by market cap, overtaking bitcoin, the longtime leader); for others, it could be crypto getting banned in a certain country.
“I find that coming up with those kinds of lists early on, especially things where I think ‘this would be bad news, this will make the price go down, but I don't think this is an existential threat,’ is a really good idea,” he said. “It's really hard to think reasonably when your portfolio is down by half, whereas if you think in advance about what kinds of news would make the price drop but not interfere much with the long-term thesis, then you can be in a better position. A lot of money has been made historically by people who say ‘the news is bad, but it's not that bad.’”
Read more: Addicted to Crypto?
Even Swan’s Klippsten sees bitcoin as “the third leg” of a family wealth-building program, not the only thing an investor should ever buy. The first leg is a traditional retirement account.
“Obviously, you want to max out anything that's tax-advantaged, or anything that your employer matches, so you should do the maximum amount you can for your IRA for your 401(k) and take the free money,” he said. The virtue of automatic paycheck deductions is that “you're going to do it no matter what. That's not discretionary income that you can spend on pizza or spring break or something.”
The second leg is paying down the mortgage to build equity in a home. Again, this imposes the discipline to save. “You’re going to be forced to make that payment … because you want to keep the house,” Klippsten said.
The caveats above aside, automated investing through dollar-cost averaging has one more potential advantage over active trading, one that goes beyond economics: It could be better for your soul.
“What we have in our hands are basically weapons that most people are using all day, every day as a form of entertainment,” said James Poulos, founder of RETURN, an online magazine that promotes healthier living in a hyperconnected society. “I would suggest that that is a very unstable and dangerous way of life.”
Such behavior is understandable, he said, “in a world where young people think, ‘well, there's definitely no way that I can become prosperous or even really get paid a fair value for my labors through our current financial system. Maybe I'll try this other thing and get super excited and get my friends rich.’ It's a natural kind of reaction.”
Nevertheless, “if you want to use bitcoin, not just to walk away from a system that is built to prevent you from flourishing, then you have to use bitcoin in a way that is actually going to be conducive to your flourishing,” said Poulos.
“For me, the foundation of that is to not use it for speculation, to not use it as just another set of numbers on another set of graphs, something that you dip in and dip out of and try to play the market the same way that you would any other sort of abstracted commodity,” but rather as a way to “build stuff.”
Poulos practices what he preaches: His book “Human, Forever” is sold on Canonic, a site that accepts payment in bitcoin and two of its offshoots, BCH and BSV, and lets authors mint and sell non-fungible tokens (NFT) on the BSV blockchain.
Swan’s Klippsten admitted that when he first got into crypto he set up trading alerts on mobile portfolio-tracking apps like Blockfolio and Delta.
“If you're chasing positions and trying to do all this active stuff, you might be like I was, on vacation with my family in Palm Springs and I have alerts going off on my phone at 6 a.m. and I'm jumping up to place trades on my phone,” he said.
By contrast, dollar-cost averaging offers a way to invest in bitcoin, or another crypto, and still have a life.
“What most people should be doing is the same thing they would be doing if bitcoin or crypto didn't exist,” Klippsten said. “It's ludicrous to think that because bitcoin and crypto exist you have to be a crypto trader.”
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