How and When to Invest that Bonus Money
To invest or not to invest? That is the question when it comes to bonuses. For financial professionals (e.g., private equity professionals, investment bankers, asset managers) this question surfaces on an annual basis as bonuses are paid. After determining your saving priorities, a decision must be made about how to deploy the cash. Since your bonuses and any carry may constitute a large percentage of your savings, this decision is an important one. You worked hard for that money and now you must determine how you can make it work best for you. Ultimately, the implementation likely occurs through one of the three strategies below:
1. Lump-sum investment
Investing all at once can be a scary proposition, but research has shown that this option is often the best of the bunch. A 2023 study conducted by Vanguard concluded that investors were better off, up to 68% of the time, when investing all at once rather than systematically, although both methods handily outperformed holding cash alone.1 This lump-sum approach takes a long-term perspective and significant trust in the marketplace, but may lead to a greater reward.
2. Dollar-cost averaging
Although this language might be a bit foreign to some, you’re probably already implementing this strategy today in your 401(k). Dollar-cost averaging means investing cash into the market in pre-determined amounts at certain intervals. For example, many of us contribute a set amount to a 401(k) every month or pay period. The interval is typically anywhere between one and 12 months, but may be accelerated if a compelling opportunity presents itself, such as a notable market pullback. Dollar-cost averaging might be a great strategy for those who may not feel comfortable investing all at once, and would rather forego some growth potential to help mitigate some volatility. The main point to remember is that dollar-cost averaging is a risk-reduction strategy, not necessarily a return-seeking strategy.
3. Don’t invest and wait for a pullback
This strategy might sound the most appealing, but could lead to poor results and can create an issue of never getting invested. Take 2013, for example, which was the start of a strong period for the S&P 500 Index. If you had received a bonus at the start of that year and decided to wait for a 10% pullback before investing, you wouldn’t have gotten invested until August 2015 — and in the meantime you would’ve missed out on a return of more than 38%.2 Fighting against the natural long-term rising tendency of the market can lead to leaving money on the table, and that could have a negative impact on your financial future.
The uneven cash flow that’s characteristic of life in the finance industry leads many individual investors to ask when it’s best to invest their savings. Although there is some empirical evidence to support lump-sum investing, the decision ultimately comes down to comfort and relating back to your overall plan. Regardless of whether you decide to invest all at once or via dollar-cost averaging, the key really comes down to defining your chosen strategy and staying disciplined to ensure you’re well positioned to achieve your long-term strategic allocation.
1 https://investor.vanguard.com/investor-resources-education/news/lump-sum-investing-versus-cost-averaging-which-is-better
2 https://www.macrotrends.net/2488/sp500-10-year-daily-chart
ABOUT THE AUTHOR
Matt Kocanda
Matt is a Partner, Wealth Advisor in our Itasca, IL, office. He serves as the personal CFO to families, private equity professionals, investment bankers and asset managers. Matt loves to help make the complex simple and help clients enjoy a full life.
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