Dollar Cost Averaging…The Discussion Continues

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This week Brian and Bo dig into the dollar cost averaging discussion, and illustrate the pros and cons that DCA presents. The Dollar Cost Averaging strategy is fairly simple, it boils down to having systematic entry points into the market.

Investopedia defines dollar cost averaging as a technique of buying a fixes dollar amount of a particular investment on regular schedule, regardless of the share price. More shares are purchased when prices are low, and fewer shares are purchased when prices are high.

While domestic equity markets are consistently reaching higher highs and setting higher lows people are asking what our strategy is moving forward. The answer is still the same: make a plan, keep it simple, and make it automatic. Dollar Cost Averaging helps address these concerns in up and down markets. Additionally, dollar cost averaging is a great technique to use to stick to your plan so that you stay in game during bad markets when dollars are most valuable. It works especially well in markets that are a little more volatile, but that is not to say go and throw all your money in micro-cap emerging market holdings. You must keep transaction costs, diversification, asset allocation, and asset location in mind when executing this strategy.

Conversely, there have been more than a few research papers written on this topic, about as many people seem to like DCA as the amount of people that do not. Vanguard jumped on the train in 2012 with their research report, Dollar-cost averaging just means taking risks later. Their research is based around the fact that, historically, markets increase 2/3 to 3/4 of the time and they go on to use this data to convey that lump sum investing should outperform DCA during the same amount of time. Vanguard’s research also illustrates that lump sum investing outperforms DCA on an average of 2.3% on average over every 10 year cycle they included in their study.

If 2.3% less in returns on a 10 year basis is the cost of taking a portion of your portfolio off the table for the 1/3 to 1/4 of the bad time, it does not seem like too big of a price to pay. We like to think of it as insurance against down markets, specifically when markets are in their current condition. A New York Times article by Paul Sullivan in 2011 used a few lines to portray the biggest benefits of DCA, that the person who put money in slowly was still better off than the person who tried to guess the direction of the market.

Broken Dreams: What’s Going on in Housing?

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Have you been waiting to buy or sell a house? Are you tired of renting and have been waiting to purchase your dream home? Brian and Bo give you their thoughts on the housing market so you can make sense of the current housing environment.

The guys first look at few explanations for the suppressed housing market we have experienced the past few years by analyzing an article by Paula Pant, 5 Stats You Need To Know About The Housing Recovery.

  1. New Construction Starts Are Apartment-Centric
  2. Unemployment For Young People Is Still High
  3. Sales of Existing Homes Are Bumpy
  4. Delinquencies and Foreclosures Are Returning to Normal
  5. Homes Are Still Undervalued, But Improving

Brian and Bo also look into an article from Tim Manni simply titled, Why Aren’t More Young People Buying Homes? Here is what they found:

  • A large portion of the buying audience is still absent – young, first time buyers.
  •  Young American’s are still in favor of home ownership. However, there are far fewer young buyers in today’s market than there were post-war baby boomers.
  •  In today’s market, purchasing a home requires substantial savings, long-term job income, a decent down payment, and limited debt.
  •  The trend is also different today than in years past as young buyers are coming to the table with more money and looking for smaller homes on smaller lots. Additionally, in recent years, townhomes have become very acceptable alternatives to single family homes.
  •  The demographic in personal decision making has changed with younger people, who are now mainly looking for ownership after starting a family and having children. A trait contrary to the baby boomers, which would opt for a small starter home at a younger age.
  •  Most young people today may not see a first home come into the picture until they are between 33-35 years old.
  •  Homes have become less of a financial investment in recent years and more of a use asset.

Up to this point, the guys only discussed the symptoms of the market. They continue by giving their thoughts on future interest rate environments and forecast how interest rates may affect the housing market moving forward. They look into the article, Why interest rates may stay very low for a lot longer, written by Tom Petruno.

The article touches on the world debt crisis and how it contributes to lower domestic interest rates. The author even mentions PIMCO co-founder Bill Gross’ estimate of the Fed’s rate being no higher than 2% through the end of the decade! It seems that the Fed is still gunning for major economic growth and willing to maintain suppressed rates if they see any sign of an economic slowdown. Additionally, the overseas central banks comprised specifically of the EBC and Bank of Japan have shown no signs of increased rates.

So, what did this mean for the future of domestic housing prices and interest rates? With no foreign pressure to increase domestic rates on the Fed, we should see the current trend continue, and we could expect thirty year mortgage rates from 4% to 5% for years to come, if all else holds equal. This means the marketplace for new loans could remain very affordable going forward, which would drive even more buyers to the market.

Check back next week, that’s right, next week, for a follow up on this topic as well as further discussion on strategies for entering and exiting the marketplace and how to make home ownership as affordable as possible.