Dollar Cost Averaging the Index ETF

In one of my previous entry, STI ETF is a Simple Way to Profit, I mentioned that I would prefer to do Dollar Cost Averaging on the Straits Times Index (STI) Exchange Traded Fund (ETF) based on the current level of the STI. The STI is currently trading at 3,337 points after the low of 2,953 points in the first quarter of 2014.

I personally feel that Dollar Cost Averaging is a simple-to-execute strategy and is safer than just 'buying and holding'. So how should we execute this plan?

Invest a Fixed Amount in a Stipulated Period

For example, you can invest a fixed amount of S$1,200 every month into SPDR® Straits Times Index (STI) ETF (ES3). Or you could invest a fixed amount of S$6,000 every quarterly. It can also be investing annually. Once you have worked out the amount you feel comfortable investing and sustaining, fix a stipulated period. It can be the first trading day of every month or the first trading day at the start of each quarter (January, April, July, October). 

Consistently Investing the same Amount of Money at the same Regular Interval 

No matter what happens to the Index, you consistently invest the same amount of money at the same regular interval. When the ETF price is at S$3.00, your S$6,000 will buy you 2 lots (2,000 shares). Likewise, when the ETF price is at S$1.00, your S$6,000 will buy you 6 lots (6,000 shares). This means you will be buying more shares when the ETF price is low and fewer shares when the ETF price is high.

Takes Away the Emotion from Investing

No matter what happens to the index (whether its goes up or down), you will be investing at your stipulated period. This takes away the emotion in investing in the ETF or even timing the ETF. You just have to stick to your plan for a long term and basically treat it as paying for your "Retirement Fund".

Hypothetical Scenario - 6 Years and Counting STI ETF Plan ...

I was browsing the historical prices of ES3 on Yahoo! Finance. Decided to do some maths on a plan based on a S$20,000 every semi-annually (start of April and October) investment. For simplicity, the cost of transactions will not be calculated. See the table below.

The ES3 (SPDR® STI ETF) has a board lot size of 1,000 units. Therefore, at S$3.13 on 1st April 2008, a lot of 1,000 ES3 shares will cost S$3,130 and the maximum number of lots you will be able to purchase is 6 (S$20,000 / S$3,130 = 6.39). 

In the Dollar Cost Averaging strategy, you will consistently invest the same amount of money at the same regular interval. From this simple plan, you would have acquired 86,000 shares and invested a total of S$243,000 over 6 years. Based on the current price of ES3, S$3.37, your total investment will be worth S$289,820 now. That is an unrealized paper gain of S$46,820. We have not factored the dividends collected.

Just for the record, based on the accumulated 86,000 ES3 shares, the dividends collected in April 2014 will be S$3,698.

Does Dollar Cost Averaging Method beat the Buy-And-Hold Method?

The Dollar Cost Averaging method does not always outperform the Buy-And-Hold method. For the Buy-And-Hold method, it really depends on the price you purchase the ETF for. Nevertheless, the Dollar Cost Averaging method prevents you from buying the Index ETF at an all-time high point, only to see the value of your investment reduce when the prices fall drastically.

Start Small, Start Early ...

If you are planning an investment for the long term, Dollar Cost Averaging the Index ETF is a viable option. You can start early by investing S$300 every month for the next 30 years. You should do the maths and see if this investment will grow to a decent amount.

The cost of commission and brokerage fee has to be considered when you plan your stipulated interval for Dollar Cost Average. To keep it simple, you generally make more money if your fees are lower. I will highlight some alternatives in keeping your transaction cost low in another entry.

The key message is to start early.

Read:
1. Exchange Traded Funds - Simplified
2. STI ETF is a Simple Way to Profit