According to current prices, the stock market is of the same value as it was in January, and even higher than it was at Christmas time. This was pre-pandemic, pre-social unrest, pre lockdown time. As we all know by now, the stock market is not a good reflection on how the economy is doing, but this still doesn’t quite sit right.
You get the feeling that we’re in very strange, unique times. The stock market had its biggest daily point drop but soon rallied back ferociously quickly.
Timing the stock market is a huge challenge even in the best of times. Despite the volatility of the climate, every moment seems to feel like “the top”. With highly aggressive monetary policy around the world and blind confidence in perpetual growth, it never seems like there’s a good dip opportunity to buy into. And if there is a dip, the atmosphere is always one of “this is it, this is where prices normalize once again, the bubble bursts and we’re getting sent into a 2008-esque recession”.
Of course, it never happens until it happens. So, how do you know when is the right time to put your money in? Is the time right now?
Time beats timing
What we need to first realize is that time in the market beats timing in the market. This means that spending a long amount of time in the market is preferable to trying to pick your moments.
You may think that’s only because most people can’t time the market well, but actually, adding money to your account gradually would still beat a strategy where you invested in exactly the right moments. That’s right, even if you knew when the big dips are coming, you still wouldn’t beat a system of slowly drip-feeding investments (this excludes margin trading).
Don’t believe me? There have been several simulations of Dollar-Cost Averaging (frequently and periodically investing the same fixed amount) against lump-sum investing, such as OfDollarsAndData’s test.
Without going too into too much detail, there’s a pretty simple underlying reason why Dollar Cost Averaging is the best: it’s benefiting from the market’s gains whilst lump sum investors wait around with no/fewer investments, handpicking the right timing. It’s far better to just keep investing, even if the lump sum investor is better at predicting the market.
This is because, as Vanguard pointed out, markets tend to go up around three out of every four years. So, three-quarters of the time, markets are going upwards. So why wait to invest? Those that are exposed to the market for longer stand a better chance of growth.
So, how long is long enough?
It’s important that, if you invest in the market itself (i.e. an index tracker), then you have to respect the nature of markets. This isn’t like hand-picking a few companies with some knowledge of their fundamentals.
Markets may dip often, but as we’re all aware, markets take the stairs up but the elevator down. What we’re all worried about is, if I invest now and there’s a crash tomorrow, how long until my money returns back to normal? Usually, it isn’t more than 5 years.
If markets take 5 or fewer years to recover after a crash, then you need to be prepared for the worst-case scenario. This means that investing in the market, unlike investing in individual stocks, means you’re in a 7+ year investing strategy. In other words, don’t invest in the market with your house deposit savings if you’re wanting to access them anytime soon.
Once you know this, investing isn’t scary. It isn’t complicated. In fact, it’s often the reason why less knowledgeable investors are outperforming so-called ‘experts’. Keep things simple, finding a highly regarded fund that encapsulates your risk profile, and set up a direct debit for fixed monthly investments. Then? Then forget about it. Don’t check the markers every day, don’t panic and sell because of a temporary crash.
Invest it all now or drip-feed it?
So, we know to not wait until you find a ‘dip’ because this would be wasting valuable growth time. But there’s still a matter of either investing all your money now or just to drip feed it in with a Direct Debit.
The answer is essentially: it depends. Investing it all right now, on paper, has a higher maximum growth amount potential. Vanguard also concluded this as pointed out earlier. However, Dollar Cost Averaging (drip feeding) has a higher minimum amount potential, or in other words, you can lose more by lump-sum investing.
So, whilst it depends on your appetite for risk, DCA is the safer bet. You’re still profiting more than those who are waiting to buy the dip, yet you’re limiting your risk by spreading your investments.
Lump-sum tends to win 60% of the time vs DCA, but investing ultimately is a game of regret minimization.