As investors, we will always want to “buy low and sell high” to give us returns on our investments. When we buy Bitcoin at $5,000 and sell it at $10,000, this gives us a profit of $5,000 on our initial investment of $5,000.
In technical terms, this doubles our money, a 100% return.
However, when we make investments into crypto assets, there are two main strategies.
- Lumpsum purchase
- Dollar-cost averaging (DCA)
These two methods of purchasing cryptocurrencies largely depend on the strategy that you have in mind. You could be trading them, HODLing them or simply accumulating them and putting them into Huobi Earn accounts to earn interest.
What is dollar-cost averaging?
Dollar-cost averaging (DCA) is done by setting aside a sum of money that will be used to purchase the cryptocurrency that you want. By doing this, you will be buying at each period, which could be a monthly or weekly or quarterly period, regardless of the price of the instrument.
For example, with cryptocurrencies, you can purchase $1,000 worth of bitcoin every month and you will be accumulating a good sum of bitcoin over a period of 12 months.
Let’s use an example to showcase the effect of dollar-cost averaging:
Period – January 2020 to December 2020
Investment Amount: $1,000
Purchase Period: 1st of every month
|Month||BTC Price||Investment Amount||BTC amount Purchased|
|Total Number of bitcoins||1.131210028|
From the table above, if we used dollar-cost averaging, we would have accumulated 1.131210028 bitcoins and used only $12,000 to achieve that amount.
This means that our average purchase price of Bitcoin is $10,608.11
Though the price of Bitcoin fluctuates every single month, by constantly purchasing bitcoin, we can accumulate it at a low price. This means if we were to sell all out bitcoins in Jan 2021, where bitcoin was priced at $34,622, we would have made a profit of $24,014 almost tripling out money.
A savvy investor will tell you, “Don’t time the market, but spend time in the market.” This means that by constantly purchasing over a period, you will be able to accumulate the tokens that you want. This is how investment is different from trading.
When it comes to lump-sum purchases, it’s very different from DCA. With lump-sum purchases, one is looking to buy the dip.
By utilising a large sum of money, you will be able to purchase a large sum of bitcoins at (hopefully) a low price.
We will take the same parameters as the previous example:
Period – January 2020 to December 2020
Investment Amount: $12,000
Figure 1: Bitcoin Price Charts – Huobi Global
Between the 2 red arrows are the price point from Jan 2020 to Dec 2020. With a lump-sum purchase, you will need to know when the right time is to enter the market.
If you managed to buy bitcoin in March 2020, you will probably have 1.85 bitcoins. The difference of 0.72 BTC earns you a total of $64,050.70 which is almost 6x your money.
However, if you bought bitcoin between July 2020 to Dec 2020, you would end up with between 1.1 bitcoins and 0.417 bitcoins. This will greatly affect your returns and your profits.
Which is the best strategy?
Each of these methods has its own pros and cons. Each works better in a different market environment.
In a downward or upward trending market, dollar-cost averaging can help reduce your risk in terms of market volatility. DCA averages out your cost of buying an asset over a given period. Another advantage of DCA is that it is supposed to take some of the stress out of investing. You do not need to make as many calculations about whether the current moment is a great time to buy an asset. You just have to decide if an asset is worth investing in over the long term.
Lump-Sum Purchasing works best in an upward market and when you can accurately identify a good market price and time at which to purchase an asset. If you succeed in purchasing at a lower price, and as the market goes up, you will be able to reap the returns at a higher rate.
However, the downside of Lump Sum Purchasing is that you need to be able to tell when the dips in the market are happening or know when the bottom of the market is. These are often skills that are more related to trading. With such a strategy, one should be careful not to over-leverage and end up losing more than one can afford to.
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