How to Invest a Large Sum of Money
So, you've got a large sum of money either from an inheritance, a bonus at work, or money you have saved up, and you are thinking about investing it in the stock market but aren’t sure where to start or how to go about it.
Investing is a great way to grow your wealth over time, but it can also be a bit intimidating, especially if you're dealing with a large amount of money.
One of the big decisions you'll need to make when investing a large sum of money is whether to use dollar-cost averaging or lump sum investing to put that money to work for you. Both strategies have their pros and cons, and the one that's right for you will depend on a variety of factors.
Let's take a closer look at the two strategies and what you need to know to make an informed decision that is best for you and your financial goals..
Dollar-cost Averaging
Dollar-cost averaging (DCA) is when you invest equal amounts over regular intervals, regardless of price. This method helps neutralize short-term volatility. It’s also a great way to invest a portion of your income regularly at the best interval that works for you (weekly, monthly, quarterly, etc).
Here are some pros and cons of using DCA to invest a large sum of money.
Pros:
Reduces risk: By investing a fixed amount of money at regular intervals, you avoid the risk of investing a large sum of money at a market peak. If you're worried about market volatility, DCA can help you feel more comfortable.
Automatic investing: DCA can be a great way to make investing a habit. Once you set up your automatic investments, you don't have to think about it too much.
Disciplined approach: DCA forces you to stick to a disciplined investment plan, which can be helpful if you tend to make impulsive decisions.
Cons:
Lower potential returns: Because you're investing a fixed amount of money over time, you could miss out on some of the potential gains that come from investing a lump sum of money all at once.
Transaction fees: If you're using a brokerage account that charges transaction fees, you may end up paying more in fees with DCA than you would with lump sum investing.
Opportunity cost: If the market is trending upward, DCA means you'll be buying fewer shares at higher prices over time, which could mean missing out on potential gains.
Lump Sum Investing
Lump sum investing is when you invest a windfall all at once. This means that you'll be exposed to the full risk of the market at that moment in time. This method can be used to get more of your money working for you as soon as possible by injecting a larger contribution into your long-term strategy.
Here are some pros and cons of using Lump Sum Investing to invest a large sum of money.
Pros:
Potential for higher returns: By investing a large sum of money all at once, you'll have the potential to reap the benefits of a bull market. If the market is trending upward, LSI can be a great way to maximize your gains.
Lower transaction fees: Because you're only making one transaction, you'll likely pay less in transaction fees with lump sum investing than you would with DCA.
Time in the market: The sooner you invest your money, the more time it has to grow. Lump sum investing can be a great way to get your money working for you as soon as possible.
Cons:
Higher risk: Investing a large sum of money all at once exposes you to more risk than investing a smaller amount of money over time. If the market takes a downturn shortly after you invest, you could see significant losses.
Emotional factors: If you're investing a large sum of money, it's tempting to try to time the market or make impulsive decisions based on emotions. This can be dangerous, as it can lead to poor decision-making and a loss of money.
Harder to stick to a plan: Lump sum investing doesn't offer the same level of discipline that DCA does. If you're prone to making impulsive decisions or changing your mind, lump sum investing may not be the best strategy for you.
Which Strategy is Right for You?
So, which strategy should you use when investing a large sum of money? The truth is, there's no one-size-fits-all answer. The strategy that's right for you will depend on a variety of factors, including your risk tolerance, investment goals, and timeline.
If you're risk-averse and want to avoid investing a large sum of money all at once, DCA may be the best strategy for you. On the other hand, if you're comfortable taking on more risk and want to maximize your potential gains, lump sum investing may be the way to go.
Ultimately, the most important thing is to have a plan and stick to it. Whether you choose DCA or lump sum investing, make sure you have a clear idea of your goals, timeline, and risk tolerance. By sticking to your plan and avoiding impulsive decisions, you'll be well on your way to investing success.