How to Exceed Dollar-Cost Averaging Returns
One of an investor's greatest nightmares is buying a stock position and then watching the market decline, day after day, leaving him with a position bought at the market's high price for that stock. Dollar-cost averaging has a well-deserved reputation as an effective way to accumulate a position in a stock or bond at a blended price that is lower than the market high; however, it does not guarantee the best returns. The only way to improve your chances of high returns is to fully understand the financial markets and the securities you are trading, to trade the trends, to trade on value and to use dollar-cost averaging to move into a position.
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Things You'll Need
- Brokerage account with research tools
- Stock research reports
- Sources of financial market news
- Sources of real time stock charts
Instructions
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Acquire the skills you will need to make good investment decisions. Learn about common stock, preferred stock, corporate bonds and government bonds, and understand how they trade. Learn technical analysis of trading charts and how to analyze company financial reports.
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Do your homework. Well-managed mutual funds consider 8 percent to be a good annual return on investment versus the S&P 500, and a market-entry technique such as dollar-cost averaging does not mean you will achieve those returns. During the 10-year period from 1985 to 1995, the average annual return was 13 percent, but historical real U.S. market returns during the period 1926 through 2005 were only 6.7 percent. If you assume dollar-cost averaging will return a little better than the long-term market average, or 8 percent over time, it is often possible to beat that using relatively risk-free, fixed-income securities. For example: During periods of high interest rates it has been possible to purchase U.S. Treasury bonds yielding more than 10 percent. Trend trading using both technical and fundamental analysis can provide much higher returns than 6 percent to 8 percent. However, any trading--no matter how skillful--is risky and can also result in losses.
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Devote daily time to managing your investment portfolio. By carefully monitoring the news for your portfolio positions, analyst reports and maintaining current technical analysis, you improve your chances of getting a higher return than through simply accumulating stock via dollar-cost averaging over time.
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Move in and out of the market in stages unless market conditions require a quick exit. Using the strategy of dollar-cost averaging to buy into a position will always protect you from buying your entire position at the most unfavorable price.
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Estimate your entry and exit points through careful analysis of companies and market conditions, and control your emotional reactions. Always follow your trading plan. Successful investing is a science, not a series of lucky breaks.
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Tips & Warnings
Develop a support group of serious investors who have impressive verifiable returns. Successful investors approach their investments in the same way Warren Buffett approaches his investments: They don't invest in securities or companies they don't understand and they don't trade on rumors. In other words, they do everything they can to limit the risk factor in their investments.
Do not assume day trading will provide you with the high returns you seek. Day trading without skillful use of professional trading techniques is very risky. The North American Securities Administrators Association (NASAA) commissioned a study of public day trading results at a retail day trading firm. The study showed that day trading accounts were likely to lose most or all of their money or make insignificant profits. Trend trading with an emphasis on value investing is less risky. Using puts and calls to hedge your position can add additional safety, but when everyone is hedging, the performance of hedges is often disappointing because your money is again in a position everyone is trying to liquidate.
