Making sense of dollar-cost averaging versus lump-sum investing

Given the recent market volatility, are you wondering if you should invest your excess cash into the market all at once or over different time intervals?

When it comes to investing, we all want to earn the highest possible return while taking on the least amount of risk.

A popular strategy that many investors are familiar with is called dollar-cost averaging (DCA), which involves investing money over set intervals of time. DCA is similar to putting money into a 401(k) plan from each paycheck versus lump-sum investing.

The question is, which strategy is better for you? Is there historical evidence or research that shows one strategy is more beneficial?

Some investors choose DCA because they worry about a market downturn, while others want to invest all their money at once because they expect stocks and bonds to grow over time.

Historical evidence and financial research propose that greater returns come with lump-sum investing.

“Finance theory and historical evidence suggest that the best way to invest … is all at once,” Vanguard reported in a recent study.

In a hypothetical example from the Vanguard study illustrated below, if an individual had the option of investing into a 60% stock-40% bond portfolio either systematically (equal monthly investments for 12 months) or in an immediate lump sum, the lump-sum investment strategy outperformed DCA and resulted in a higher return 68% of the time. This lump-sum investment strategy outperformance holds true in international markets as well.

Investment over a 12-month intervalWhile it’s true that there’s a risk of losing money in the markets, to the extent that you are investing taxable assets, a silver lining of a market decline is the ability to tax-loss harvest and achieve some tax benefit.

Tax-loss harvesting involves selling a security at a loss, and then re-investing the proceeds into a similar investment.

By selling the original investment at a loss, you “realize the loss” for tax purposes and can use that capital loss on your tax return to either offset capital gains or to offset $3,000 of ordinary income (if your capital losses exceeded your capital gains for the year).

Any realized losses that aren’t used in a given year can then be carried forward into future tax years.

By following a lump-sum investing strategy, even in the case of a market downturn, if you have a tax-efficient investment portfolio you will potentially have greater opportunities for tax-loss harvesting than if you were to use DCA.

At Wipfli Financial Advisors, we believe that the best way to manage risk within your portfolio is to invest in a low-cost, globally diversified, tax-efficient portfolio with an asset allocation that is aligned with your risk tolerance and financial goals. Investors should think about their portfolios in the context of their overall financial plan to ensure that their investments are structured in a way to help achieve their goals.

If you want to receive more insight on developing a tax-efficient portfolio and building out a financial plan, contact a member of our team.

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The concept of DCA assumes that the investor is able to sustain investing equal amounts on a regular schedule. DCA strategies do not guarantee that investment portfolio will achieve positive performance or avoid losses.

Making sense of dollar-cost averaging versus lump-sum investing

Wipfli Financial Advisors, LLC (“Wipfli Financial”) is an investment advisor registered with the U.S. Securities and Exchange Commission (SEC); however, such registration does not imply a certain level of skill or training and no inference to the contrary should be made. Wipfli Financial is a proud affiliate of Wipfli LLP, a national accounting and consulting firm. Information pertaining to Wipfli Financial’s management, operations, services, fees and conflicts of interest is set forth in Wipfli Financial’s current Form ADV Part 2A brochure and Form CRS, copies of which are available from Wipfli Financial upon request at no cost or at Wipfli Financial does not provide tax, accounting or legal services. The views expressed by the author are the author’s alone and do not necessarily represent the views of Wipfli Financial or its affiliates. The information contained in any third-party resource cited herein is not owned or controlled by Wipfli Financial, and Wipfli Financial does not guarantee the accuracy or reliability of any information that may be found in such resources. Links to any third-party resource are provided as a courtesy for reference only and are not intended to be, and do not act as, an endorsement by Wipfli Financial of the third party or any of its content or use of its content. The standard information provided in this blog is for general purposes only and should not be construed as, or used as a substitute for, financial, investment or other professional advice. If you have questions regarding your financial situation, you should consult your financial planner, investment advisor, attorney or other professional.
Kyle Griffith

CFP® | Financial Advisor

Kyle Griffith is a Financial Advisor with Wipfli Financial Advisors, LLC, based in the Chicagoland area.

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Making sense of dollar-cost averaging versus lump-sum investing

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