Whether you’ve just received a generous bonus, inherited money, or sold a business, deciding how to invest a lump sum of money can be tricky. Should you invest everything right away, even if the market feels unpredictable? Or should you ease in gradually?
It’s a common concern that many people face, and it’s easy to see why. The fear of making the wrong choice can be overwhelming—what if the market drops right after you invest? Or, what if you wait too long and miss out on gains? It’s perfectly natural to feel uncertain.
Start by Clarifying Your Goals
Before making any investment decisions, take a moment to think about what you want to achieve with this money.
The stock market can be unpredictable in the short term, with frequent ups and downs. If your windfall is earmarked for short-term needs—like covering college tuition in the next few years—you might want to consider more stable options like short-term bonds, bond funds, or certificates of deposit (CDs), which tend to be less impacted by market volatility.
However, if you’re looking to use this money to fund long-term goals, like retirement, investing in the stock market may be worth considering. Historically, while the market experiences fluctuations, it tends to rise over the long term.
Lump-Sum Investing vs. Dollar-Cost Averaging
Investing a lump sum means putting all of your money into the market right away. This approach allows you to benefit from any immediate gains if the market is trending upward.
That said, the market’s short-term performance is unpredictable. If there’s a downturn soon after your investment, you might face a temporary loss. If that idea makes you uncomfortable, dollar-cost averaging—investing smaller amounts at regular intervals—might be a better fit for you.
For example, you could choose to invest $12,000 in a diversified index fund by contributing $1,000 each month over a year. When the market is high, your money will buy fewer shares, but when the market dips, you’ll be able to buy more shares. This strategy helps you spread out your risk and take advantage of market fluctuations, ultimately helping you manage the average cost of your investments.
However, keep in mind that while dollar-cost averaging can provide peace of mind, it may come at the expense of potential returns. Studies show that lump-sum investing tends to outperform dollar-cost averaging about 68% of the time.
So, what’s more important to you—maximizing your potential returns or reducing risk? If you’re aiming to get the most out of your investment, lump-sum investing might be the way to go. But if avoiding short-term losses is your priority, dollar-cost averaging could offer a smoother ride. In fact, the research indicates that while lump-sum investing typically outperforms, the difference isn’t huge. If a gradual approach helps you sleep better and reduces the chances of panic selling during market drops, it could be worth it.
Don’t Let Indecision Hold You Back
Over the long term, both stocks and bonds generally outperform keeping cash on hand. That’s why it’s essential to start investing as soon as possible to harness the power of long-term growth.
Waiting to invest, hoping to time the market perfectly, is a risky game—one that most people lose. Both lump-sum investing and dollar-cost averaging help you avoid this behavior and take advantage of the tendency for the market to grow over the long term. And this is what you need to meet your long-term financial goals. The important thing is to choose the strategy that will allow you to stick to your long-term plan.
Need help deciding the best way to invest your windfall? We’re here to help you explore your options and find the approach that suits your financial goals best. CLICK HERE to make an appointment.