Chart of the week
Lump Sum investing vs Dollar Cost Averaging
What does this chart show?
Since 1960, money invested all at once (in a lump sum) has outperformed the same sum of money invested gradually (dollar cost averaging, or DCA) over a 24 month period. Dollar cost averaging over a 24 month period has underperformed a lump sum investment in 75% of all months and by 7.8% on average.
Why does it matter?
People routinely receive large sums of money from things like salary bonuses, inheritance, a home sale, or the sale of a business, and they are left with a few tough decisions. One of the most agonizing among them - when should I invest the money?
Immediately investing a lump sum has proven to be the optimal investment decision on paper, not just for stocks but also for other assets1. This holds true over the 24 month period shown in the chart, and over longer and shorter periods2. The reason is simple - markets reward risk takers and stocks tend to go up more often than they go down.
There is real behavioral risk, though, in investing a lump sum all at once. If the market drops shortly after investing your lump sum, you may feel like the downside risk in the market was ‘so obvious’ and experience the attendant tension or regret. Behavioral risk may be the greatest risk most investors face.
The Bottom Line
The numbers are clear that investing a lump sum all at once is optimal, but be aware of the behavioral risk associated with it. Align your capital to a plan.
Chart Source - Nick Maggiulli’s great blog, Of Dollars and Data
