Is It Better to Invest a Little Bit or All at Once?
When you have a significant amount of money to invest (say, as a result of a windfall ), you have an important decision to make. Should you invest all your money at once (lump sum investing) or spread it out over time (dollar cost averaging)? If you want to know the “secrets” to investing before you get started, I’m sorry to inform you that there really aren’t any . While both strategies have their benefits, like everything in investing, it all depends on your risk tolerance. Here’s what you need to know about choosing between lump sum investing and dollar-cost averaging.
What is lump sum investing?
Lump sum investing means investing the entire available amount immediately, rather than spreading out small investments over time. According to Experian , lump sum investing outperforms dollar value: on average 75% of the time for stocks and 90% of the time for bonds. (However, it is impossible to predict future market performance, and past data does not guarantee future results.)
The reason is simple: markets tend to rise over time. The longer you keep money out of the market, the more likely you are to miss out on potential profits. If you’re in doubt, there’s an old investing adage: “Time in the market is more important than time in the market.” As long as you can tolerate market volatility—watching your balance rise and fall at different times—a one-time investment can yield greater rewards over the long term.
What is dollar cost averaging?
If you’re new to investing or generally more risk-averse, dollar-cost averaging (DCA) helps you avoid the stress of trying to “time the market.” DCA involves investing fixed amounts at regular intervals—say, investing $1,000 monthly for a year instead of $12,000 all at once. While DCA may not maximize profits, it will minimize regret if markets fall soon after investing. Compared to the lump sum approach, DCA is better suited for investors who have regular income that they want to invest, or who may panic sell during market downturns, or who simply prefer a safer, more structured approach.
How to choose an investment strategy
Consider these factors when choosing between these two investment approaches:
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Risk tolerance . If market volatility is keeping you up at night, DCA may be worth the potential sacrifice in returns.
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Market conditions . During times of high volatility or uncertainty, DCA can provide greater peace of mind.
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Time horizon . Longer-term investment horizons tend to favor lump sum investing as short-term volatility becomes less significant.
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Source of funds . If you’re investing a windfall (inheritance, bonus, etc.), a lump sum may make more sense. For recurring income, DCA may be more practical.
Some investors take a middle ground, investing a significant portion in one lump sum and dollar averaging the rest. This approach can provide both the statistical benefits of lump sum investing and the psychological benefits of DCA.
Bottom line
From a purely mathematical point of view, lump sum investing is the best choice in most cases. However, investing isn’t just about the numbers, it’s also about sleeping well at night and sticking to your strategy during market turbulence. If dollar-cost averaging helps you stay invested and avoid emotional decisions, a slightly lower expected return may be a worthwhile trade-off.
As always, the best strategy is one that you can stick to consistently over the long term. If you are dealing with an abnormally large amount of money and are in a difficult situation, it is worth using the services of a good financial advisor .