My father asked me write about dollar-cost averaging, which is strange, since his own financial career is epitomized by refusing to buy an apartment in New York in the wake of Manhattan’s last great real estate crash in 1973, shrewdly choosing instead to commute two hours a day to his job in the city. Or maybe that’s exactly why he does want me to write about it. In any case, I take requests.
Major Premise: You liked the stock at price x.
Minor Premise: Nothing has changed about the stock.
Conclusion: You should like the stock even more at price x – y. Buy more!
Perhaps the best example of the dollar-cost averaging pitch is from the eerily accurate movie Boiler Room, about penny stock hustlers, in which Seth Davis, crouching under his desk, cajoles a worried investor in a collapsing stock (propped up entirely by the schlockhouse in the first place) into buying more with a big pitch for dollar-cost averaging. E.F. Moody takes care to point out that “the price of the shares average [sic] out over time and can still produce an acceptable profit — assuming that the ending value of the shares is higher than the dollar cost average of monthly investing — not an absolute guarantee.” Which is right neighborly and responsible of them.
As to the merits of dollar-cost averaging, let me put this as tactfully as possible: there are none whatsoever. Either the stock is a good or bad buy now. Your previous purchases have as much bearing on your present purchase as previous rolls at the craps table have on whether to bet the line. To put it in terms of our syllogism, the minor premise is false. Something has changed about the stock: its price has gone down. As my father points out, if the price goes up, and you want to buy more, does your broker tell you discouragingly that you will raise your average price per share? I thought not.
The syllogism, however, is almost true. Stock represents something real, a percentage of ownership in a company that presumably, though not necessarily, has real assets and real value. If the customer had researched the company exhaustively, had kept his knowledge up-to-date, and had assured himself that the value of the company was higher than the stock price, then the syllogism would be valid. In truth, of course, the customer bought the stock because his broker or tennis partner advised him to. Such “knowledge” as he has is usually confined to the belief that Acme Industries is going through the roof. When Acme goes through the floor instead, not only has something he knows about the stock changed; everything he knows about the stock has changed. Since the customer never sees it this way, dollar-cost averaging can be expected to work forever. As an investment strategy dollar-cost averaging is absurd; only as a psychological strategy does its brilliance become manifest.
Besides being irrationally self-regarding, most people are irrationally risk-averse. They will sacrifice an excellent prospect of a large gain to avoid the possibility of a large loss. This, oddly, mitigates in favor of dollar-cost averaging, when you might think the opposite would be true. As long as the customer’s money is in stock, he can imagine it to be worth whatever he pleases, like a lottery ticket. Fantasy becomes reality when he converts it to cash. It is excruciating for most people to sell at a loss; when they call their broker they’re dying to be talked out of it. And so they are.
Buy more! Buy now! Buy more now!