Author Topic: Cash. Now What?  (Read 7726 times)

gratefulgal

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Cash. Now What?
« on: May 16, 2014, 05:26:44 AM »
Through the sale of a company and recent inheritance(s), I am fortunate to have a dilemma. How to invest the cash? Specifically, do I drip the cash into the market over the course of a few years - holding cash along the way, except for what gets put in the market in intervals? Or, do I buy in all at once?

A few tidbits: I'm not interested in 'timing the market' (I'm generally an invest & sit kindof gal), but I think I would be irresponsible not to take into account that the market seems high at the moment. When does Dollar Cost Averaging come in to consideration?

IF the best direction is to trickle the investment into stocks over the next 2-3 years (I dunno?), what do I do with the cash in the meantime? Be patient? CDs (ick)? Bonds (not sure those are most attractive right now)?

I’ve maxed out my IRA contributions for the year already and have 2 rental properties as well (not interested in more).

Risk Tolerance? Not a whole lot. Working part-time now, hoping to fully retire in ~5-7 yrs.

Currently invested: $350K
Cash that I need to do something with: $250K

nereo

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Re: Cash. Now What?
« Reply #1 on: May 16, 2014, 05:40:53 AM »
Through the sale of a company and recent inheritance(s), I am fortunate to have a dilemma. How to invest the cash? Specifically, do I drip the cash into the market over the course of a few years - holding cash along the way, except for what gets put in the market in intervals? Or, do I buy in all at once?

Cash that I need to do something with: $250K

I'd recommend investing that cash in automatic weekly intervals over the next 1-3 years.  Personally I'd invest it over the next 18mo (78 weeks).  That would be $3200/week invested. On average the market will drop 10% from a recent high once per year, so you'll most likely get at least one of those dips.
If the market happens to fall >15% you can accelerate your buy-in rate.

In the meantime, for simplicity I'd just keep it in a savings account.  Even with the abysmal yields you won't miss much in this short time frame trying to chase a 2-3% bond rate vs a ~1% savings account, and in this case I'd like to keep things more liquid in case the market plunges and stocks go on sale.

matchewed

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Re: Cash. Now What?
« Reply #2 on: May 16, 2014, 06:04:46 AM »
Most scenarios show that lump sum investing is superior. Put those soldiers to work. You're not investing for 5-7 years but for 60. Invest it now it doesn't matter if it drops 50% tomorrow. You're not touching that money for a long time.

After you've invested that 250k then you start DCAing your savings amount monthly.

nereo

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Re: Cash. Now What?
« Reply #3 on: May 16, 2014, 06:40:05 AM »
Most scenarios show that lump sum investing is superior. Put those soldiers to work. You're not investing for 5-7 years but for 60. Invest it now it doesn't matter if it drops 50% tomorrow. You're not touching that money for a long time.

just curious - do you have a source for this?  My  understanding was that DCA a lump sum over a relatively short (1-3 year) time frame reduced the risk of putting everything in during a peak - e.g. the mean return wouldn't change practically at all but the variance (spread) would be much less.  Similar potential return with reduced risk is what I was advocating.

matchewed

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Re: Cash. Now What?
« Reply #4 on: May 16, 2014, 06:58:05 AM »
Most scenarios show that lump sum investing is superior. Put those soldiers to work. You're not investing for 5-7 years but for 60. Invest it now it doesn't matter if it drops 50% tomorrow. You're not touching that money for a long time.

just curious - do you have a source for this?  My  understanding was that DCA a lump sum over a relatively short (1-3 year) time frame reduced the risk of putting everything in during a peak - e.g. the mean return wouldn't change practically at all but the variance (spread) would be much less.  Similar potential return with reduced risk is what I was advocating.

See the second part of what I said. You're not investing for 1-3 years. You can throw that out right off the bat. You're investing for your life.

Outside of that it is math. 100k invested now with an average annual return of 7% will yield higher than 100k invested over the course of three years. All that money sitting in cash waiting to be invested isn't earning anything when you're DCAing a large amount of cash.

FrugalSpendthrift

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Re: Cash. Now What?
« Reply #5 on: May 16, 2014, 08:28:20 AM »
Read the story about the worlds worst market timer.  What if you only invested in market peaks?
http://awealthofcommonsense.com/worlds-worst-market-timer/

Instead of timing the market by dripping it in slowly, step back and look at your whole asset allocation and how it was thrown off by this influx of cash.  You need to rebalance to your desired asset allocation by reducing cash and buying equities.  Do you want your feelings about the market being high to sway your desired asset allocation?

nereo

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Re: Cash. Now What?
« Reply #6 on: May 16, 2014, 10:31:22 AM »

See the second part of what I said. You're not investing for 1-3 years. You can throw that out right off the bat. You're investing for your life.

Outside of that it is math. 100k invested now with an average annual return of 7% will yield higher than 100k invested over the course of three years. All that money sitting in cash waiting to be invested isn't earning anything when you're DCAing a large amount of cash.

Ok - I agree with you most of the way.  But my point is that investing the $250k over (my preferred) time frame of 18 months makes it very likely that some will be invested in peaks, some in dips.  Take a fairly typical 10% drop.  On average one occurs more often than Christmas.  You are correct that over ~30 year time frames such a difference appears minimal (a difference of a fraction of a percent), until you run some real numbers. On $250k invested over a 30 year time frame, if you poured everything in at the peak vs. DCA there would be a difference of over $100k with typical returns.
That's all I'm saying.

Quote
Read the story about the worlds worst market timer.  What if you only invested in market peaks?
http://awealthofcommonsense.com/worlds-worst-market-timer/
Interesting article.  Here's another one; http://www.fool.com/investing/general/2013/12/20/99-of-long-term-investing-is-doing-nothing-the-oth.aspx
True, even if you invest only in peaks you will still come out ahead over long time periods, but you do much, much better if you just average out the peaks and valleys. 
I would be very interested in seeing the results of the hypothetical investor in your article if he had simply invested a set amount every month.  My guess is he'd have at least 2x the money.  a bit off topic, but there you go.


matchewed

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Re: Cash. Now What?
« Reply #7 on: May 16, 2014, 10:58:14 AM »

See the second part of what I said. You're not investing for 1-3 years. You can throw that out right off the bat. You're investing for your life.

Outside of that it is math. 100k invested now with an average annual return of 7% will yield higher than 100k invested over the course of three years. All that money sitting in cash waiting to be invested isn't earning anything when you're DCAing a large amount of cash.

Ok - I agree with you most of the way.  But my point is that investing the $250k over (my preferred) time frame of 18 months makes it very likely that some will be invested in peaks, some in dips.  Take a fairly typical 10% drop.  On average one occurs more often than Christmas.  You are correct that over ~30 year time frames such a difference appears minimal (a difference of a fraction of a percent), until you run some real numbers. On $250k invested over a 30 year time frame, if you poured everything in at the peak vs. DCA there would be a difference of over $100k with typical returns.
That's all I'm saying.

But you're also losing out on the climbs as well as missing the drops with DCA right? DCA works as a concept to teach people that investing isn't a scary thing, but you don't wait amassing a huge pile of cash to DCA right? You invest your money as you get it or regularly set up monthly or weekly or whatever.

You say that a 10% drop occurs more often than Christmas. So you're claiming that twice a year we see 10% drops? And yet we still manage over a long enough time frame 7% returns. You must see a volatility in the market I don't. I think the assumption that we have 10% drops more frequently than Christmas is just a meaningless statement which is trying to scare for the short term. Again we're not concerned with the short term. We're not trying to make a quick buck here. We're investors. Try just looking at historical data - http://www.moneychimp.com/features/dollar_cost.htm glance through that for a while and see how often lump sum wins. Here are the results given a savings account return of .1%
DCA LostLump LostTime Frame
821950-59
641960-69
5570-79
7380-89
7390-99
5500-09
3110-13
41231950-2013

DCA lost 41 times out of 64 years. Unless you absolutely can predict the future and know exactly when a drop will occur I'd invest now with the whole amount. Even if you raise your savings account to 1% you're still only going to gain one more year that Lump lost making it a 40 to 24.


SunshineGirl

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Re: Cash. Now What?
« Reply #8 on: May 16, 2014, 11:10:08 AM »
Do you still have another source of income?

If so, you may want to keep two years' living expenses in cash and invest the rest plus 100% of your paychecks going forward, then live off your savings, maybe pulling out the next year's savings each year to replenish.

Seems like a kinder, gentler way? So much of this is psychological. A fear of the future and of doing the wrong thing comes into play.

aj_yooper

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Re: Cash. Now What?
« Reply #9 on: May 16, 2014, 11:14:06 AM »
If you have clear targets for your funds within your asset allocation policy, you might consider value investing, which is a variant of dollar cost averaging.  For reference:  http://www.investopedia.com/articles/stocks/07/dcavsva.asp and many others. 

If you don't have clear targets, you might want to rejigger your asset allocation policy and see how your rentals, investments, and cash are currently working together.  Then, you can see what needs to be bolstered, reduced, or added.  If you are to retire in 5-7 years, you might want to look at things from a bucket perspective and plan your choices that way too.  For example: http://www.nasdaq.com/personal-finance/retirement-strategy-nervous-investors.aspx, http://www.forbes.com/sites/investor/2014/02/12/how-to-create-a-model-bucket-portfolio-for-your-retirement/,  and many others.
« Last Edit: May 16, 2014, 11:37:34 AM by aj_yooper »

dragoncar

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Re: Cash. Now What?
« Reply #10 on: May 16, 2014, 11:25:28 AM »
I agree that, historically, DCA has the best expected return (as always, nothing is guaranteed).  The question is whether you KNOW you have the fortitude to stay in the market if you invest right before a crash.

Your AA can help.  You mention you have a low risk tolerance, so at 50/50 stock/bond, 60/40, or 70/30 might work better for you?

Read the story about the worlds worst market timer.  What if you only invested in market peaks?
http://awealthofcommonsense.com/worlds-worst-market-timer/

Instead of timing the market by dripping it in slowly, step back and look at your whole asset allocation and how it was thrown off by this influx of cash.  You need to rebalance to your desired asset allocation by reducing cash and buying equities.  Do you want your feelings about the market being high to sway your desired asset allocation?

Interesting story, but I'm surprised the author left out the CAGR and later claimed it was hard to calculate?  Luckily one commenter ran the numbers and said it was 7.3% -- that's pretty damn good.  In summary, if you regularly save money in cash and then buy at peaks but never sell, you get 7.3% (the results are, I think, skewed by the fact that Bob is increasing his savings over time).

One thing these studies don't take into account is job loss -- you need enough flexibility/emergency fund that you don't need that invested money during the exact time it's worth a lot less.
« Last Edit: May 16, 2014, 11:32:54 AM by dragoncar »

FrugalSpendthrift

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Re: Cash. Now What?
« Reply #11 on: May 16, 2014, 11:56:46 AM »
Here is a quote from https://en.wikipedia.org/wiki/Dollar_cost_averaging
Quote
Discussions of the problems with DCA can do a disservice to investors who confuse DCA with continuous, automatic investing. This confusion of terms is perpetuated by some articles (AARP,[13] Motley Fool[14]) and specifically noted by others (Vanguard[15]). The argued weakness of DCA arises in the context of having the option to invest a lump sum, but choosing to use DCA instead. If the market is expected to trend upwards over time,[16] DCA can conversely be expected to face a statistical headwind: the investor is choosing to invest at a future time rather than today, even though future prices are expected to be higher. But most individual investors, especially in the context of retirement investing, never face a choice between lump sum investing and DCA investing with a significant amount of money. The disservice arises when these investors take the criticisms of DCA to mean that timing the market is better than continuously and automatically investing a portion of their income as they earn it. For example, stopping one's retirement investment contributions during a declining market on account of the argued weaknesses of DCA would indicate a misunderstanding of those arguments.

The weakness of DCA investing applies when considering the investment of a large lump sum, and DCA would postpone investing most of that sum until later dates. Given that the historical market value of a balanced portfolio has increased over time, starting today tends to be better than waiting until tomorrow. However, for the average retirement investor's situation where only small sums are available at any given time, the historical market trend would support a policy of continuous, automatic investing without regard to market direction.

To me, DCA is investing the money as soon as it is available to me, instead of trying to save up some amount and then put it in the market.  This would apply to large and small amounts, because the long term benefit of compounding is the amount of time in the market.  Choosing to invest it tomorrow instead of today is trying to time the market, which is more like gambling than investing.

nereo

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Re: Cash. Now What?
« Reply #12 on: May 16, 2014, 12:14:38 PM »

You say that a 10% drop occurs more often than Christmas. So you're claiming that twice a year we see 10% drops? And yet we still manage over a long enough time frame 7% returns. You must see a volatility in the market I don't. I think the assumption that we have 10% drops more frequently than Christmas is just a meaningless statement which is trying to scare for the short term. Again we're not concerned with the short term. We're not trying to make a quick buck here. We're investors. Try just looking at historical data - http://www.moneychimp.com/features/dollar_cost.htm glance through that for a while and see how often lump sum wins. Here are the results given a savings account return of .1%

DCA lost 41 times out of 64 years. Unless you absolutely can predict the future and know exactly when a drop will occur I'd invest now with the whole amount. Even if you raise your savings account to 1% you're still only going to gain one more year that Lump lost making it a 40 to 24.
Thanks for the link - that's probably the first data-laden example I've seen of why not to DCA a lump sum.  I'll look more into it but it does really support your case and undermine mine.  If I ever find myself with a large lump-sum I'll have to consider just investing it all into an index fund all at once.
as for the 'christmas' comment, that one I'm sticking by.  historically the market has fallen 10% from a recent high at least once per year. It falls 20% from a recent high about once ever 4.5 years, or almost as often as every presidential election.  The "christmas" and "presidential election" bits are just used to help people wrap their heads around how frequently it actually happens.    Talking-heads get lots of air time shouting about how 'the market's going to drop 10% or more within the next year!" - and they're usually right.  but that doesn't make it an interesting or meaningful prediction.

matchewed

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Re: Cash. Now What?
« Reply #13 on: May 16, 2014, 12:24:26 PM »

You say that a 10% drop occurs more often than Christmas. So you're claiming that twice a year we see 10% drops? And yet we still manage over a long enough time frame 7% returns. You must see a volatility in the market I don't. I think the assumption that we have 10% drops more frequently than Christmas is just a meaningless statement which is trying to scare for the short term. Again we're not concerned with the short term. We're not trying to make a quick buck here. We're investors. Try just looking at historical data - http://www.moneychimp.com/features/dollar_cost.htm glance through that for a while and see how often lump sum wins. Here are the results given a savings account return of .1%

DCA lost 41 times out of 64 years. Unless you absolutely can predict the future and know exactly when a drop will occur I'd invest now with the whole amount. Even if you raise your savings account to 1% you're still only going to gain one more year that Lump lost making it a 40 to 24.
Thanks for the link - that's probably the first data-laden example I've seen of why not to DCA a lump sum.  I'll look more into it but it does really support your case and undermine mine.  If I ever find myself with a large lump-sum I'll have to consider just investing it all into an index fund all at once.
as for the 'christmas' comment, that one I'm sticking by.  historically the market has fallen 10% from a recent high at least once per year. It falls 20% from a recent high about once ever 4.5 years, or almost as often as every presidential election.  The "christmas" and "presidential election" bits are just used to help people wrap their heads around how frequently it actually happens.    Talking-heads get lots of air time shouting about how 'the market's going to drop 10% or more within the next year!" - and they're usually right.  but that doesn't make it an interesting or meaningful prediction.

I 100% agree that the fear mongering over the market dropping in a year 10% or more is meaningless, because in order for the average market returns to be true it has to go up as well within that same year on average more than the 10%, or to compensate in later years even more so. Even if we consider the "Christmas" and "presidential election" bits as a method to communicate an idea we have to consider that there will still be 364 days of positive(ish) returns for every Christmas and  1456 days of positive(ish) returns for every "presidential election" crash. Why am I going to worry about Christmas and presidential elections given that? All the market fear mongering has to be understood as two sides of a coin. For every drop there is a recovery or a positive swing. Since we cannot predict when that will happen you have to come up with an AA that you can ride regardless of market performance and ride out the inevitable dips and peaks to a profitable investment strategy.

gratefulgal

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Re: Cash. Now What?
« Reply #14 on: May 16, 2014, 02:59:53 PM »
Thank you, each, so much for the time and thoughtfulness of the comments!!! This was my first post to MMM forum and found everyone’s help incredibly generous and awesome. I read each of the links provided and reviewed each scenario.

I’m sure my advisor loved it – but I took the comments and questions to him today for feedback. He offered an interesting bit of feedback to chew on…

(a)   He agreed with the investing a lump sum all at once (although, not that I expected him not to agree <wink>);
(b)   He offered that if it is invested in dividend stocks, and we simply rollover the dividends as they are paid, that is essentially DCA’ing anyway.

Thoughts? Thanks, again, everyone! You rock.

milesdividendmd

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Re: Cash. Now What?
« Reply #15 on: May 16, 2014, 04:28:47 PM »
I'm with matchewed on this one. DCA's chief advantage is in avoiding regret should the market tank right after investing a large sum.

Put another way the market seemed over valued and bubbly at the start of 2013, and you could have made the same argument on favor of DCA last year. In retrospect you would have been wrong.

No one knows what the future holds.

Reinvestment of dividends and coupons is a form of DCA, but I do not think this is a good reason to preferentially invest in dividend stocks.

Decide on your favored asset allocation, invest accordingly, and rebalance at regular predetermined intervals. That's the winners game. As boring as it sounds.

SDREMNGR

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Re: Cash. Now What?
« Reply #16 on: May 16, 2014, 06:49:17 PM »
It is pretty well proven that DCA is historically sub-optimal statistically.  That is simply because the market has a positive long term bias.  So if you had $x and wanted to invest it over time, chances are, you would have been better off if you had put it in lumpsum at the start of the period vs. DCA over the entire duration of the period.

If the time horizon was, say 10 years, or 20 years, or any long enough period where the market has historically had a positive return, you were better off doing lump sum.  In the few periods when the market had a negative return during that time, then you were better off doing DCA.

In short term time spans of 1 or 2 years, lump sum investing still won out more often than DCA, but because negative return 1 year periods are more frequent than negative return 10 year periods, if your investment horizon is shorter term, you may be psychologically better off doing DCA.  There's a mental saving grace of "at least I bought some stock when prices were low" and that's what people want to be able to say.  If they bought lump sum and the market then tanked right after, people have a lot of regrets.  And losing money they had is harder on people than not making potential money they may have made IF they had invested.

In the end, it may be better to DCA for you because it's sort of hedging your bets.  I would say, if you knew that the market was going to tank, you should short the market and leverage it as much as you can.  But we all know that no one knows exactly what the market will do.  So given that you want to invest your money BUT you are scared that it will tank (just like everyone else) you may be better off doing a DCA investing over how many ever periods that you'd like.  Maybe over a 2 year period, while keeping the funds in a savings account?  (I just opened up a GE Capital one which gives 0.95% interest.  Better than nothing).  Or you can buy treasuries in a ladder fashion to mature in various time periods (3 months, 6 months, 9 months, 1 year, etc.). And whenever it matures, you then put it into whatever index fund you want to invest in.
« Last Edit: May 16, 2014, 07:51:47 PM by SDREMNGR »

RapmasterD

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Re: Cash. Now What?
« Reply #17 on: May 16, 2014, 07:14:11 PM »
Or happy medium it...and invest every month for three months -- 1/3, 1/3, 1/3....but overall I agree with the "throw it all in at once" crowd.