Is it better to invest a lump sum or in monthly instalments?

Investments tend to come in two main forms – putting a lump sum to work, or dripping money in gradually. But which is best, and what should investors think about when deciding between the two?

First some data to help illustrate. The table below shows the returns from an investment in global share markets (following the MSCI World Index) over different timescales. The first column shows the return from a lump sum invested at the start of that period, the second that same sum split up into equal monthly amounts of £50 invested over the period.

Lump sum and regular investing linked to global stock market performance

Source: FE Analytics, total returns in GBP to 31/03/2024; monthly investing of £50 from each month's end. Past performance is not a reliable guide to future returns. Investment involves risk. Investors may get back less than invested.

These figures are indicative of a wider investment trend. Over shorter time-frames, it tends to make less difference whether you invest a lump sum or split it into regular amounts.

In a given year, for instance, it is much closer to 50/50 whether a lump sum at the start works out better than splitting it up over the twelve months, and you stand to be better off with monthly investments if the market falls in the shorter term. However, as time rolls on the benefits of putting more money to work at the earliest opportunity tends to have more of an effect. That’s because of the power of compounding. The gap between investing a lump sum right away and splitting it up is likely to grow ever wider as years turn into decades.

It is, however, worth pointing out the figures would look different if market values were falling consistently towards the end of the investment period. Global markets are close to all-time highs, which flatters results from the lump sum approach, albeit that tends to work out better the majority of the time. The simple fact is markets rise more often than they fall, plus investors stand to benefit from dividends reinvested too, although past performance is not a reliable guide to future returns.

Read more: How does compound interest work in real life?

Time beats timing – most of the time

The decision whether to invest a lump sum in one go isn’t quite as simple, though. The stock market drives significant wealth creation over time, but the price of admission is the occasional short-term sharp drops, so your timeframe is very important. You could end up the victim of unfortunate timing, especially if your investment horizon is too short.

For instance, global stock markets fell by around half during the collapse of the 'Dotcom' bubble from 2000 to 2003 and again between 2007 to 2009 during the Global Financial Crisis. In each case, markets eventually recovered but it took a long time – 1,515 and 1,286 days respectively.

One example is the Covid panic in 2020 when markets fell by about a third. The recovery was much quicker this time, taking only 141 days to get back to its prior level. In these exceptional instances investing a lump sum in one go could have led to a worrying short-term outcome and buying in chunks to take advantage of these drops in value could have resulted in a better result.

Pound cost averaging can be less stressful

It is the fear of becoming a victim of volatility that dissuades a lot of people from committing a lump sum in one go. Although a lump sum at outset does tend to be better, splitting it up can help smooth out the highs and lows of the market (called volatility) and might prevent an investor panicking and giving up at just the wrong time. By investing in chunks, rather than a larger lump sum in one go, an investor ends up buying more shares or units when prices become cheaper and fewer when they become more expensive – this is known as pound cost averaging.

Regular investing can therefore make things psychologically easier. It removes concerns about timing the market, whether it’s expensive or about to fall, and enforces a healthy discipline of investing at both good and bad times. If the market falls, you can ignore it in the knowledge you have committed to investing for a long period and your chosen investment has become cheaper so you can buy more. It should therefore appeal to those who are more risk-averse or who have a larger amount of money to invest. Plus of course, not everyone is fortunate to have a lump sum to invest.

What constitutes a ‘larger amount’ is personal to you and depends on your overall income and level of resources. A lot also depends on the end point of your investing journey. Market volatility (the ups and downs of investment values) usually isn’t a problem in the early years, but if you are closer to the point at which you draw on your investments it can matter a lot.

Should you invest a lump sum or in monthly payments?

As a general rule, if you have decades rather than years to invest then investing a lump sum might be right for you. You’ll be putting it to work as soon as possible to capture the maximum return for the entire amount. However, investors need to consider prevailing market conditions and valuations. For example, markets don’t tend to drop precipitously when valuations are already inexpensive and the headlines are negative.

Personal circumstances and sensitivities might also have an influence, and more cautious or first-time investors may wish to dip their toe before fully committing. Yet it is important to not let this turn into procrastination – the most important factor is investing for as long as you can to generate wealth in the first place.

Read more: How to invest a lump sum