Folks who are just starting their (side) investing career might be reluctant to dollar-cost average up. When I started investing I didn't know the concept of dollar-cost averaging, so I always bought blocks of 100 shares. It was bad advice from a friend who obviously didn't know what they were doing. Now I know to determine the largest amount of money that I would allocate to a position, not fretting about the number of shares. And I dollar-cost average into my positions because I never know when Mr. Market might give me a dip in my favorite companies. From experience, most of the time dollar-cost averaging works better than not. In fact, in the accumulation phase (as we're buying more shares of the companies we want to own) we would be adding new funds to our portfolio every month or quarter, so there really is no hurry to buy a big chunk. There's just a tendency to buy the best value at the time when funds become available.
Dollar-Cost Averaging Up Example
Recently, I employed the strategy of dollar-cost averaging up as Microsoft (MSFT) was breaking up from its 200-day moving average. At first there was a fake out, but as its 20-day moving average was crossing its 200-day moving average, and soon after the 50-day moving average crossed it also, it was for real. Of course, I didn't dollar-cost average up on Microsoft just because it was breaking up from its long-term average. I bought my initial position based on the fact that it was undervalued, has been growing its earnings eight out of the past 10 years, and has been growing its dividends at a compounded annual growth rate of 28% in the last decade. Actually, it was a bargain that had a margin of safety even when I dollar-cost averaged up at the 3.2% yield point. It was in fact experiencing a P/E expansion, back to the normalized P/E, and it still hasn't reached there yet.
What if the Price Drops?
Could there be some bad news out tomorrow that causes a price drop? Sure, there could be. But I initially bought the company for its dividend growth, and since I still got that margin of safety, I'm a keeper. If the market does bring its price down enough, I might just add more.
I believe there's money to be made in finding companies with a margin of safety that is generating a strong cash flow and sports a nice growing dividend. Combining fundamental and technical analysis aids in that process. I consider myself an amateur in technical analysis, but understanding the moving averages surely helps.
What prompted me to write this article was a comment from a popular Seeking Alpha contributor, David Crosetti: "Some investors worry about the valuation (I do) but if you are beginning a new portfolio, you are going to be adding money year over year. If you do that you are "averaging" your investments over time." Crosetti said this in the comments section of "The Dividend Income Magical Mystery Tour," which is a fine article in its own right written by another popular and experienced investor, Regarded Solutions.
Crosetti's comment got me thinking. I posed as a dividend growth investor after I started reading about the strategy on here, but I was really jumping in and out of stocks (which paid growing dividends) most of the time. I'm embarrassed to admit that I jumped out of Chevron (CVX) twice. Looking back, this is what I did:
- Bought at $97.6/share (starting yield: 3.6%; yield on cost: 4.1%)
- Sold at $99.4/share
- Bought at $108/share. (starting yield: 3.33%; yield on cost: 3.7%)
- Solid at $115/share
- Bought at $123/share. (starting yield: 3.2%)
If I didn't sell any shares, I would be essentially dollar-cost averaging up, and that's OK. Businesses are dynamic entities. Strong businesses continue to grow their earnings and pay a higher dividend. So naturally, their price will steadily appreciate as well. If I didn't sell those shares, and let's say I bought an equal number of shares each time, I would be sitting on a 3.6% yield on cost -- which is nice, to say the least.
It's OK to dollar-cost average up as businesses grow their earnings and dividends. Hopefully, after reading this article, folks who really want to utilize the power of dividend growth investing won't be as inclined to jump in and out of long-term holding candidates for the sake of measly capital gains, but instead opt to dollar-cost average up in core holdings.