Many cryptocurrency investors avoid scenarios like the one I’m about to share with you by using something called a DCA crypto strategy. Let me know if the following situation sounds familiar. You heard that Dogecoin was going to the moon because Elon Musk (AKA “The Dogefather”) was hosting SNL. His appearance would bring tons of exposure to Dogecoin and cause the price to skyrocket. You buy Dogecoin when it’s still only at 50 cents. Right after you buy, the price rises slightly before tanking by 20%. Luckily, you were prepared for this. You know that cryptocurrency is volatile. The price is definitely going to bounce back. So, instead of selling, you decide to HODL (“Hold On for Dear Life”). Unfortunately, the price continues to slowly and painfully drop another 30% over the following months.
The above situation described a real event that happened with Dogecoin and Elon Musk. However, similar events have happened with dozens of different coins. A DCA crypto strategy protects you from sharp rises/falls in a coin’s price. Instead, it allows you to profit from the long-term value that cryptocurrency can create.
DCA stands for dollar-cost averaging your cryptocurrency. Dollar-cost averaging is an investment strategy where investors break up a big sum of money into smaller investments over time. It is one of the most effective methods for protecting your capital.
Let’s take a look at what a DCA crypto strategy looks like and how it can prevent situations like the one above.
The Problem: Cryptocurrency is Volatile
Investing in cryptocurrency has always come with one major risk. Cryptocurrency prices are incredibly volatile. This makes it difficult for many investors to get started. I mean, who wants to buy an asset that can fall 30% in a matter of days? Some smaller cryptocurrencies can even fall 30% in the span of a few hours. Sounds like an easy way to lose your life’s savings.
Let’s take a look at Bitcoin’s price movements throughout 2021. If you’re super new to the space, Bitcoin is the largest, most commonly accepted cryptocurrency. Here is how it performed in 2021:
- Jan – Mar (3 months): Bitcoin started 2021 with a bang and rose 90%.
- April – Early July (4 months): Bitcoin fell nearly 50%.
- Late July – Nov (5 months): Bitcoin rallied back and rose over 100%.
- Nov – Dec (2 months): Bitcoin peaked in Nov and fell 30% before the year ended.
If you could always buy at the perfect time then it’s easy to make a killing investing in Bitcoin. Unfortunately, predicting the future price of Bitcoin is impossible, especially in the short term. At that point, it’s no different from trying to guess which color the roulette ball will land on.
On the other hand, cryptocurrencies are also some of the best-performing assets of all time. It’s not uncommon for some coins to rise 10,000% or even more in the span of a few years. Cryptocurrency also seems like it could be the future. It has so much exciting potential and entire countries are adopting it as legal tender. It would be such a shame to not own any cryptocurrency at all.
So how do you participate in the positive aspects of crypto but reduce the gambling aspect?
Let’s take a closer look at dollar-cost averaging your crypto.
The Solution: Use A DCA Crypto Strategy
Dollar-cost averaging is a strategy where you break up a big sum of money into smaller ones. You then invest these smaller sums of money slowly over time. Doing this helps protect your money from the price swings of cryptocurrencies. For example, instead of investing $10,000 all at once, you could invest $1,000 every month for 10 months. You could even invest $100 every week for 100 weeks. Let’s take a look at an example.
Scenario No. 1
Let’s say that you invest all $10,000 into Bitcoin at once. Then, over the first month, the price falls by 40%. Your $10,000 is now worth $6,000. During the second month, the price of Bitcoin doesn’t change. Since you invested all of your savings, you don’t really have any more money to buy the dip. Now, you’re stuck simply waiting and praying that the price will go up.
Let’s see how you can use a DCA crypto strategy to avoid this situation.
Scenario No. 2
This time, you decide to invest your $10,000 in two batches. You buy $5,000 in the first month. The price of Bitcoin still slides by 40%. Your $5,000 investment is now worth $3,000. Luckily, you still have the other $5,000 in cash. You use this money to buy more Bitcoin in Month No. 2. Let’s say that the price of Bitcoin doesn’t change in Month No. 2. Your total investment is now worth $9,000.
In Scenario No. 2, you saved $3,000 by breaking up your investment into two batches. Doing this protected you from the sharp 40% dip. The more you break your investment up, the safer you will be from price fluctuations. For example, dollar-cost averaging over 6 months is safer than just two months. Spreading an investment over the course of one year is safer than six months, and so on.
Benefits of DCA Crypto
There are several main benefits of using a DCA crypto strategy. As we saw above, the main benefit is reducing your risk. When you lose money, you have to earn an even larger return to earn it all back. For example, in the above example, $10,000 fell 40% and turned into $6,000. However, if you earned another 40% return on your $6,000, you’ll still only have $8,400. Your $6,000 needs to grow by 66.67% just to return to $10,000.
There are two other main benefits of using a DCA crypto strategy.
It detaches your emotions. More so than other assets, cryptocurrency prices are driven by emotions. In particular, FOMO (Fear Of Missing Out). Every time a cryptocurrency starts to run, other investors will kick themselves for not buying it earlier. The higher the price goes, the more investors will kick themselves. Finally, it will seem like the cryptocurrency is invincible and people will recklessly buy into it. However, this is always the riskiest time to buy. Once the price starts to fall, investors panic, and everyone rushes to sell. This emotional investing is mainly why crypto prices are so volatile. A DCA crypto strategy helps remove this temptation. You can rest assured knowing that you are slowly and safely investing your money into cryptocurrency.
It creates a structured investment plan. If you don’t have a $10,000 lump sum to invest, don’t worry. You can still participate in dollar-cost averaging. Instead, you just need to set aside money to invest each week. You can do this by budgeting your income and saving a portion of it. Not only does this protect your money but it also helps you build stable money habits.
With all that said, there are still some downsides to this strategy.
Downsides of DCA Crypto
Our example above only explored a scenario where the price dropped drastically. In this scenario, our DCA crypto strategy saved us money. However, if the price of Bitcoin had gone up, instead of down, then dollar-cost averaging would have cost us money. In some cases, using a DCA crypto strategy can mitigate your gains. That’s the price you have to pay for trying to keep your money safe!
Investing is a constant tug-of-war between risk and reward. If the potential reward of an investment is high, you can bet that the risk of losing money is also high. On the other hand, if an asset is incredibly safe then you probably don’t stand to make much money. The key is usually to try and land somewhere in the middle. You want to maximize your gains, without taking on an unreasonable amount of risk.
Our goal here at Investment U is to help educate you on all the different styles of investing. This way, you’ll be able to make logical decisions that best fit your unique investor profile!
I hope that you’ve found this DCA crypto strategy to be valuable! As usual, please base all investment decisions on your own due diligence and risk tolerance.
About Teddy Stavetski
A University of Miami grad, Teddy studied marketing and finance while also playing four years on the football team. He’s always had a passion for business and used his experience from a few personal projects to become one of the top-rated business writers on Fiverr.com. When he’s not hammering words onto paper, you can find him hammering notes on the piano or traveling to some place random.