I’ve been really bad at regularly making contributions to my Self-Employed 401k from Fidelity. I had only planned to put $500 a month into it for the first part of the year, since I wanted to keep as much liquid cash as possible in case I bought a house. Now that it seems like (1) we’ll have enough money both buy a house and contribute to the 401k, (2) we’ve may not buy right away anyhow since we can’t agree on what we want, and (3) the year is quickly coming to an end, I went ahead and sent in a lump sum of $10,000 to catch up!
My problem: The money just showed up on my account today, so I will have to wait until Monday to trade. This is the same day Mr. Bernanke plans on making his Fed Funds rate announcement, which will either calm the market down (drop 0.25%), make it really unhappy (keep it the same), or make it really happy (drop 0.5%). Even with the subprime mess, I am definitely still going invest my money into the stock market… but should I do it all at once?
Usually, in the arena of dollar cost average vs. lump sum my position has been:
If you already have all the money available (not if you’re just taking a set amount out of each paycheck) and you are well away from retirement, you should just invest the lump sum all at once.
This is supported by several studies, including this FPA Journal article Lump Sum Beats Dollar-Cost Averaging, which concludes:
Given a lump sum, is it better to invest the entire amount immediately, or spread it out in equal installments? Based on historical evidence, the major conclusion of our study is that the odds strongly favor investing the lump sum immediately. This conclusion emerges after comparing annualized monthly returns for both DCA and LS strategies for all possible 12-month periods from 1926 to 1991. For the entire 65-year period, the LS strategy produced superior returns approximately two-thirds of the time, and the superior returns were statistically significant.
So it turns out 2/3rds of the time you win out, and 1/3rd of the time you lose. Not bad. The next argument that some people make is DCA is more of a risk-reduction method than anything else. Again, multiple academic articles suggest that DCA may not be a very efficient way to reduce risk, either! Bummer.
Still, given the Bernanke situation, I am considering dollar-cost-averaging $1000 a day over the next two weeks instead of $10,000 all at once on Monday. Prudent idea, or backtracking?