We’re Here For A Long Time, Not Just The Good Times!
We’ve all heard of the saying “here for a good time, not a long time” and some may have used the expression on more than one occasion, whether it be a quote, singing along to Trooper (for the younger readers!) or in a meme.
When it comes to your investments, can the same be said? That comes down to your personal situation and investment goals but for most of our investors we are here for both, a long time and if all goes to plan, a good time!! Time is on your side as another famous market quote says “it’s time in the market, not timing the market” that counts.
So, you’ve made the decision that you’re going to invest your hard-earned money. You know this is a long-term investment. How do you decide when to invest? This decision on when to actually commit to making your investment is something we constantly see our clients grapple with.
One approach might be to invest 100% of your funds as soon as they are available. This is certainly an easier option. You are then able to let the investments do their thing and carry on with enjoying life! We know that longer term investments generally have more ups than downs, and grow over time, so this strategy makes a lot of sense. You will do particularly well if investment markets continue to rise in the early stages of the investment.
Another approach is to invest your available funds bit by bit over a period of time – this is commonly known as Dollar Cost Averaging (DCA). This can be a good option for those of us who are a little more conservative and risk averse. This is because DCA can minimise the regret of loss, the disappointment that might come if markets perform poorly just after you have invested. This is an important emotion to acknowledge, if the markets are volatile in the early stages of your investment.
This approach is not as easy to implement as it appears. It takes focussed commitment as human nature invariably means there will be the temptation to stop making deposits if markets fall. This would then defeat the purpose of DCA and in fact, often makes things worse as investors hold off investing until markets have more than recovered. A 2011 research paper by Gerstein Fisher looked at which approach works best – lump sum or DCA. They did this by comparing the outcome of investing a lump sum in US shares to a DCA approach, where money was assumed to be invested in 12 equal amounts over the course of one year.
The long run performance of the two approaches was then measured over subsequent twenty-year periods.
Using data between 1 Jan 1926 to 31 Dec 2010, investing as a lump sum outperformed the DCA strategy 71% of the time. That’s nearly three out of four times!
While lump sum did outperform in the analysis the margin isn’t massive. The study showed the average lump sum portfolio ended the twenty-year holding period with a balance 4.6% higher than the average portfolio built using dollar cost averaging. That difference pales into insignificance compared to the total wealth accumulated under both approaches of almost 10 x the dollar amount invested. Time in the market is a lot more important than the timing of the initial purchase!
So the history supports investing in a lump sum but ultimately it does come down to your choice. The best investment approach is the one you are most comfortable with noting that it’s better to get started investing, even if slowly, than not to start at all!
Our experience is that some investors are happy to set and get comfortable in the knowledge that the long term solves any short-term volatility, for other investors DCA will give them a little more comfort in getting their investment strategy started.
Either way, to earn what history suggests is the inevitable “good time” from our investments we need to be prepared to give our portfolios time to grow. The old quote is right, “it’s time in the market, not timing the market” that counts.
* Information in this article should not be seen as a substitute for investment advice. Investors should speak to an adviser for investment advice.
Adapted from FisherFunds