“Should I invest a lump sum now or drip it into the market over time?” \u00a0This is a question we’re getting more and more often. \u00a0As usual, the answer is not straight forward and of course… it depends.<\/p>\n
Despite the declines\u00a0last year\u00a0and the early part of this year, North American stock markets seem to have continued their upward march and are now at peak\u00a0levels. \u00a0European and Asian markets aren’t as close to\u00a0peak levels but nonetheless investors are jittery and not sure if now is the best\u00a0time to invest. \u00a0The US election is pending, Brexit implications are still playing out and the news generally tends to be doom and gloom. \u00a0It’s understandable why people might hesitate if they have a lump sum of cash sitting on the sidelines and are unsure if now is the best time to put it at risk.<\/p>\n
It’s not only about expected investment returns<\/strong><\/p>\n There are two distinct views on what to do with a lump sum. \u00a0The first is that it’s best to invest right away. \u00a0The second is that it’s best to spread your investment over time, engaging in what is commonly referred to as “dollar cost averaging”. \u00a0Dollar cost averaging might involve splitting your lump sum into four equal tranches and investing one tranche every three months over the course\u00a0of a year. \u00a0In doing so, you’d smooth the impact of market volatility, maybe missing some good upward trends but also maybe avoiding putting all your money in at once just before a market crash.<\/p>\n What does the evidence say? \u00a0The academic research tells us that trying to time the markets is futile\u00a0and\u00a0at any given time we can expect\u00a0a future positive return on investment. \u00a0After all, the market generally goes up, in fact according to Jim Yih of Retire Happy the annual return of the TSX stock index was positive 73.9 % of the time between 1920 and 2010. \u00a0So the odds are in your favour that you’ll be better off by investing now\u00a0– certainly not guaranteed but expected to be positive. \u00a0 Dimensional Fund Advisors (not that Nobel prize winners are always right but but this group has a strong evidenced-based approach to investments) say the following on this subject (from their website<\/a>):<\/p>\n “Standard financial analysis says dollar cost averaging is suboptimal. \u00a0If you focus only on your investment outcome, investing a lump sum immediately lets you construct the best portfolio you can today; slowing the process with dollar cost averaging just keeps you in something other than your best portfolio until you are done.”<\/p><\/blockquote>\n Sensible and supported by good math I’m sure….but not the whole picture. \u00a0 They also go on to say:<\/p>\n “Behavioral finance provides a different perspective. Because of the difference between the way people react to errors of omission and errors of commission, dollar cost averaging may give investors a better expected investment experience.”<\/p><\/blockquote>\n Essentially what this means is that\u00a0while\u00a0purely from an investment perspective the expectation is that one would be better off investing a lump sum today, it is not a certainty and when decisions have to be made when uncertain future outcomes are at stake psychology enters the equation in a big way. \u00a0An active decision to invest now followed by an unexpected poor outcome might scar an investor from making future beneficial investment decisions. \u00a0Surely there are many people who, scared and scarred by the market carnage in 2008\/2009, sold out at the bottom and have remained on the sidelines through the subsequent rally. \u00a0Or imagine if you’d invested a large lump sum a couple of weeks\u00a0before Black Monday in 1987\u00a0instead of smoothing it out over the following year or so. \u00a0You may find yourself hesitant to ever put money in the markets again! \u00a0Investors that are liable to suffer extreme regret from their own active\u00a0decisions that turn out to be wrong (errors of commission) may find that spreading a lump sum investment over time eases\u00a0the blow sufficiently to keep them invested and on track with their investment plan.<\/p>\n Figure out what kind of investor you are, make a plan and stick with it<\/strong><\/p>\n Market crashes don’t happen very\u00a0often and at any given point in time investors should expect a positive return. \u00a0This doesn’t mean that behavioural\/psychological forces aren’t real and powerful. \u00a0So what are investors to do? To begin with, investors would be very wise to spend some time considering how they might react to various market scenarios – what kind of investor are you? \u00a0Are you un-phased by market volatility and immune to external pressures like the press and market pundits? \u00a0Do you feel really nervous\u00a0making a decision under uncertainty? Try\u00a0taking\u00a0a risk survey<\/a> or two to help gauge your\u00a0willingness to take risk relative to other investors – a sort of investing gut check. \u00a0Try to imagine yourself in these situations and practice how you might feel and react. \u00a0Lastly, put a plan in place ahead of time – take the decision out of your hands – blaming the plan might be psychologically easier than blaming yourself if things don’t turn out exactly as expected.<\/p>\n Decide now what the best course of action is for you and document it in a well thought through plan. \u00a0And then make sure to remember that it’s often when the plan feels most uncomfortable that it’s most important to stick with\u00a0it!<\/p>\n <\/p>\n <\/p>\n <\/p>\n","protected":false},"excerpt":{"rendered":" “Should I invest a lump sum now or drip it into the market over time?” \u00a0This is a question we’re getting more and more often. \u00a0As usual, the answer is not straight forward and of course… it depends. Despite the declines\u00a0last year\u00a0and the early part of this year, North American stock markets seem to have […]<\/a><\/p>\n","protected":false},"author":2,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[1,10,15],"tags":[],"class_list":["post-660","post","type-post","status-publish","format-standard","hentry","category-all-posts","category-evidence-based-approach","category-risk-and-return"],"_links":{"self":[{"href":"https:\/\/chaltenadvisors.ca\/blog\/wp-json\/wp\/v2\/posts\/660","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/chaltenadvisors.ca\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/chaltenadvisors.ca\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/chaltenadvisors.ca\/blog\/wp-json\/wp\/v2\/users\/2"}],"replies":[{"embeddable":true,"href":"https:\/\/chaltenadvisors.ca\/blog\/wp-json\/wp\/v2\/comments?post=660"}],"version-history":[{"count":6,"href":"https:\/\/chaltenadvisors.ca\/blog\/wp-json\/wp\/v2\/posts\/660\/revisions"}],"predecessor-version":[{"id":666,"href":"https:\/\/chaltenadvisors.ca\/blog\/wp-json\/wp\/v2\/posts\/660\/revisions\/666"}],"wp:attachment":[{"href":"https:\/\/chaltenadvisors.ca\/blog\/wp-json\/wp\/v2\/media?parent=660"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/chaltenadvisors.ca\/blog\/wp-json\/wp\/v2\/categories?post=660"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/chaltenadvisors.ca\/blog\/wp-json\/wp\/v2\/tags?post=660"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}