With interest rates continuing to be non existent for the foreseeable future, a lot of people have been making investments to achieve a higher return. But these people, who normally leave their money on deposit, as nervous of investing all their money in one go. What if it goes down in value immediately?
To reduce this risk, you can spread your investment over a period of time, a process that is called “dollar-cost averaging”. By spreading out your investment over say 12 months, you are investing 1/12th of your money each month. If the markets have fallen, your existing investment has fallen in value but you are also buying at a lower price. If markets have grown, your existing investment has grown but you buy in at a higher price. There is no guarantee that you will win or lose under this investment method but the idea is that it will average out over the year.
The truth is, there is no definitive answer. People say that you should get your money working for you as soon as possible. Afterall, investing is a long term strategy and the sooner you get your money in the market, the better.
We looked investing in three different years, 2008, 2009 and 2010. In each year, Joe invested a €120,000 lump sum on 1 January. Mary, who is more cautious, spread her investment out evenly each month, investing €10,000 on the first of the month for a year. Let’s have a look at the value of their investment in the MSCI World Index at at 1 January 2019 (excluding taxes and charges)
What we can see is that when the market is falling, we get better value from buying on a monthly basis than when it is rising. The thing is, we don’t know what the price is going to be in 1 month’s time or 12 month’s time. You may get lucky, you may not. But what you should be asking yourself is whether you think the value of the assets you are investing in are expected to be higher in 10 or 20 years time than it is today?
We also have to take into account people’s attitude to risk. There is no point in telling someone that they should invest their savings in one go if they are going to be worried about it and checking the value all the time. If they feel more comfortable in exchanging potentially lower returns in exchange for peace of mind, then lets use dollar cost averaging.
What do you think? Are you nervous about investing a lump sum or do you prefer to spread out the investment amounts? Let me know by sending me an email at email@example.com