I'd Put Most of a Lump Sum Into an S&P 500 Fund Right Away. Here's When I Wouldn't.
With the index hovering near a record, is easing in bit by bit the safer way to buy?
The S&P 500 hit a new record high of 7,818.93 on October 6, leaving it just 1% below that peak as of now. With a large sum of money earmarked for an index fund, investing it all at once may seem like a risky move. An alternative approach is dollar-cost averaging, which involves dividing the funds into equal portions and investing over a period of months.
Vanguard conducted a study in 2012 that compared the two methods, finding that investing the entire amount at once performed better in around two-thirds of the cases. The simple analysis of the data from 1950 to the present revealed similar results. Thus, it seems more prudent to invest the majority of the funds all at once. However, dollar-cost averaging still has a role to play, particularly in times of poor performance.
The study, known as "Dollar-cost averaging just means taking risk later," compared the two strategies over rolling 10-year periods in the U.S., U.K., and Australia. In the main version, the funds were held in cash investments and gradually moved into a 60% stocks and 40% bonds mix over a 12-month period. When all the funds were invested at once, this approach won 67% of the U.S. periods, and the percentages for the U.K. and Australia were 67% and 66%, respectively.
On average, the lump sum ended about 2.3% ahead in the U.S. Moreover, the longer the funds were spread out, the worse the outcome. The main reason behind this is that stocks and bonds have consistently outperformed cash over time, leading to more favorable buying conditions when waiting to invest. The study focused on a sum of money already available, but Vanguard suggests a different scenario where one invests a portion of each paycheck.
In this case, Vanguard's main test included both stocks and bonds, so a separate analysis was conducted on the S&P 500 using month-end closes since 1950. Comparing investing the entire sum at once with 12 equal monthly purchases, the lump sum won in 651 out of 909 rolling 12-month stretches, or approximately 72% of the time.
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