Question

Dollar-cost averaging means that you buy equal dollar amounts of a stock every period, for example, $500 per month. The strategy is based on the idea that when the stock price is low, your fixed monthly purchase will buy more shares, and when the price is high, fewer shares. Averaging over time, you will end up buying more shares when the stock is cheaper and fewer when it is relatively expensive. Therefore, by design, you will exhibit good market timing. Evaluate this strategy.

Short answer

The above strategy is based on the notion that stocks’ prices fluctuate around a “normal” level, which is unspecified.

Step-by-step solution

Definition

The dollar-cost averaging also known as DCA is a strategy to reduce the impact of volatility by dividing the total amount to be invested through periodic purchases.

Explanation

The implied meaning to the dollar-cost averaging strategy is the notion that stock prices fluctuate around a “normal” level. Otherwise, there is no meaning to statements such as: “when the price is high.” However it is beyond understanding how to calculate whether a price of $50 today will be viewed as high or low compared to the stock price in six months from now?