Dollar cost averaging is systematically investing money over time as opposed to investing it in one lump sum. Advice from professionals has more than often been that you should use dollar cost averaging to help protect against a market downturn.
Most of the time we have no choice but to dollar cost average into investments as we receive income. Putting money aside from your pay check towards retirement accounts (superannuation). Saving a percentage of your income and and investing each month.
If we receive a lump some of money such as a Tax Return, Inheritance, Bonus, Pension Payout or Windfall we have a choice. Do we invest it all at once or do we dollar cost average.
A recent study by Vanguard shows that the better option is to invest it all at once. Vanguard took data from rolling 12-month periods from 1926 to 2015 in the United States, 1976 to 2015 in the United Kingdom, and 1984 to 2015 in Australia. Looking initially at a 60% stock / 40% bond portfolio comparing investing immediately vs systematic. Systematic defined as splitting the investment into 12 monthly contributions.
Looking at the chart above just over two thirds of the time it would work out better to invest a lump sum rather and invest systematically. Oddly enough the asset allocation did not make a significant difference to the outcome.
One significant plus to the systematic approach that is not recorded in this analysis is the human component of investing. In the vanguard study it is called minimising the potential for regret. For investors with a lower risk tolerance choosing the systematic approach can help. It allows you to ease into the market and provide some short term downside protection. One of biggest risks when it comes to investing is selling when the market is down and locking in your losses.
Looking at the vanguard study and other similar studies it is proven. Time In the Market is the better than Timing the Market over two thirds of the time. If you are risk adverse you may wish to sacrifice gains for safety. How do you feel about the findings? What would you do if you received a lump sum? Comment below or hit me up in an email.