Lump sum investment definition: when you choose to invest a significant portion of savings all at once, such as when you have received a bonus at work, payment for a one-time job, an inheritance, or when you have decided to review your portfolio or consolidate your pensions. That contrasts with monthly investment, and which is most appropriate for putting away a portion of your monthly income, such as your salary.
What are the benefits of lump-sum investment?
Lump-sum investment has a number of benefits. By committing available funds to an investment in one go, it maximises their return and reduces the temptation of gradually spending them. Picture the following scenario: You received your yearly bonus and it’s sitting in your bank account. You’d like to invest it, but aren’t really sure what the best option is, so you decide you’ll do some research and talk to some colleagues and maybe a financial advisor. In the meantime, work picks up and, together with various small but urgent issues, it means you don’t really get round to that for several months. And on a large lump-sum, even a few months of missed returns of fractions of a percent can add up, in terms of dollars.
In addition to that, a few friends are discussing a holiday abroad. It’s not what you were planning, but hey – you smile every time you look at the six digits in your bank account, and a bonus is a reward for good work, right? So you convince yourself you deserve it and go ahead.
When you come back from holiday, your bank manager calls about the account and recommends you put your money to work by investing in one of their funds. You know that that’s probably not the very best option – he’s always pushing products with high fees – but you can always move it later and it really is better than leaving it idle. Net result: 10 years down the line your savings are several thousand dollars lower than they would otherwise have been.
A well-thought-out lump-sum investment avoids this scenario. Your savings go into the right investments as early as possible, and if you do decide to spend them, it’s a conscious decision rather than an impulse.
Lump-sum investment is a great moment to think about your investment and portfolio strategy and even your financial and retirement plans as a whole. When investing a few hundred or thousand dollars at the end of the month, you might just put them in the same investments as you already have, by default. But a sum of tens or hundreds of thousands of dollars encourages you to consciously think about your strategy.
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What is the best structure for you? An ISA, an SIPP, a QROPS, an offshore fund or a trust? And come to think of it, how does all of that compare to buying some property? Consciously defining an appropriate asset allocation when making your lump-sum investment then sets the stage for you to build that up with your monthly savings.
A lump-sum investment is a good way to save for specific objectives. Financially it doesn’t really matter if your children’s college fund literally is kept in a separate investment vehicle from your other investments. What matters is whether your total net worth is sufficient for your needs. But in practice, it can be helpful and rewarding to set aside lump-sums for specific objectives: “This year’s bonus paid for the kids’ college”, “This inheritance is going to be the first step in saving enough to start my own business”, for example.
A lump-sum investment is a good way to make larger one-time investments, notably in property. Although some providers do now offer monthly investment opportunities in property, it is still most common for that kind of investment to require a significant lump-sum deposit.
Are there any disadvantages to lump-sum investment?
Lump-sum investment has one main disadvantage. By investing all at once, you are ultimately buying securities – your investment funds ultimately go into funds – at the market prices and rates of a given moment in time. If that turns out to have been an unfortunate moment to invest overall, your entire lump-sum, which may be a significant portion of your net worth, is affected.
Just think of the 25 year-old promising banker who invested his generous 2006 bonus in an aggressive allocation in mid-2007. Besides his portfolio crashing, he might also have lost his job in 2008. Although the allocation could, in principle, have been appropriate for someone of his age, income and preferences, in this specific case it ultimately was very unfortunate. On the other hand, if he invested very conservatively, he would have been better off in this case, but in the long-term would be expected to make a lower return on his investments.
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One way to address this risk is to initially invest your lump-sum in a portfolio that is more heavily weighted to low-risk investments. You can then periodically re-balance the portfolio towards your long-term allocation by transferring funds from lower-risk to higher-risk options. This is known as ‘dollar-cost-averaging’. Ultimately it comes down to a decision to trade off risk and return. By investing all at once you have higher risk and higher expected return. By investing gradually, you have lower risk and lower return.
Whom is lump-sum investment appropriate for? Am I eligible?
Lump-sum investment is appropriate for anybody with savings that they’d like to invest, regardless of their income. However, if you are looking to invest your monthly income, rather than funds that you have available now, choosing a monthly investment plan might be more appropriate than saving up to invest a lump-sum further on.
It is also worth noting that if you have outstanding debt, you are usually better-off using your savings to pay down your debt rather than invest. Because lenders price-in their costs, the risk of default, and their profit margin when they lend to us as individuals, whereas we as individuals often invest in the securities of large, established companies, the rates on our debt are usually higher than those on our investments.
That is almost certainly the case if it is high-interest debt such as credit cards, overdrafts or overdue payments. In the case of mortgages, whether it makes sense to pay it down before investing in other assets depends on your specific mortgage rates and whether prepayments are allowed, and whether you can deduct the interest from tax. It is also important to ensure, before getting into longer-term investing, that you have built up a minimum emergency cash balance for unforeseen situations.
How does lump-sum investing work in practice? Should I have an advisor?
Lump-sum investing can be carried out completely independently, with off-the-shelf products, or with the help of a financial advisor. Both options have pros and cons.
The main advantage of investing independently is the possibility of lower overall fees, simply because you are removing a service. Financial advisors are either paid directly or receive a commission on the investment products they advise you on. On the other hand, if you invest directly in stocks and bonds, or in low-fee index funds and ETFs, you can potentially remove that fee.
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There are two caveats to this. First, it is a possibility, rather than a certainty. As an individual investor, a given investment fund might well charge you a certain fee regardless of whether you have an advisor, so in those cases there is no reason not to employ the advisor. Second, fees are important, but so is investment performance. If an advisor helps you to choose the most appropriate investments, and avoid mistakes, the difference in returns could easily outweigh the difference in fees.
And, as mentioned above, a lump-sum investment is a great opportunity to consciously think about the right investment portfolio for you. And the right investment portfolio for you is, in turn, a function of your overall financial plan and retirement plan, which we explain in detail here and here.
Finally, with thousands of investment options and structures, researching and choosing involves significant time and effort. And this lump-sum investment is hopefully not your last – you will have others, and will probably also have monthly savings to invest. You will also have to monitor your overall performance. An advisor can save you time and help make better decisions in the long run. We discuss this in more detail in our guide to monthly investing.
How much do I need to invest?
Any amount of saving is better than no saving. If you aren’t financially comfortable enough to save much, all the more reason to carefully save what you can – you’ll need it.
You can make attractive lump-sum investments in off-the-shelf products with virtually any amount. Different providers have different minimum investment requirements, which can range from “no minimum” to millions of dollars. As a rule of thumb, higher minimums usually (but not always) go hand-in-hand with lower fees or better performance.
To work with a financial advisor, on the other hand, you’d need a higher amount to justify the advisor’s work – $100,000 is a common starting-point for established advisors. Advisors either receive commissions on the funds they offer you, or you pay them directly. Either way, for very low amounts, it wouldn’t be cost effective.
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Of course, how much you should invest depends on your specific income, lifestyle expectations and personal goals, and is best determined with a personal financial and retirement plan. In contrast to pure investment advice – the cost of which, as mentioned above, has to be weighed against the incremental income, considering the size of the investment pot – having a personal plan could be worthwhile even if your current savings or income are low, and it could make sense to hire an advisor for this.
A discussion of what asset classes are most appropriate for you at a given point in time is best had with your financial advisor.
Who are the main providers of investment products?
There are thousands of different providers of investment and retirement products, and they are all claiming to offer the best lump sum investments opportunities. Several are in the Fortune 500 and have been in the business for over 150 years. Some of the best-known of these are Old Mutual International, Friends Provident International, AXA, Zurich and Generali.
Advice on specific providers that are most appropriate for you and offer the most attractive opportunities at a given moment is something you should discuss directly with your financial advisor, or research directly if you choose to invest independently.
In general, you should look for credible and financially stable providers. A long track-record is positive, but of course there are successful and respectable newcomers too. The ideal provider for you will have a good variety of investment options with successful investment track-records, and have fees that are aligned with their degree of active management, performance and service.
How to invest large sums of money?
Numerous different investment structures are available, and are appropriate for savers in different situations. There are QROPS, SIPPs, ISAs, among many lesser-known alternatives.
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For example, consider offshore Personal Portfolio Bonds (PPB’s). These are based in offshore jurisdictions such as the Isle of Man and Guernsey and offer a variety of benefits, such as:
1. Tax-free roll-up for Brits and PPB benefits for Australians, South Africans and the Irish;
2. 5% income tax exemption for Brits for 20 years;
3. Allowing you to buy ‘institutional’ classes of investment funds, which have lower fees than the ‘retail’ classes which are usually sold to individuals;
4. The possibility of being placed inside a trust structure, thereby protecting them from inheritance tax (IHT).
Because they are convenient ‘wrappers’ for various kinds of investments, but that also have fixed costs, portfolio bonds are examples of structures that are most appropriate for lump-sum investments.
What returns can I expect?
Returns vary across asset classes and from fund to fund, and net returns also depend on the fees and taxes you pay.
The higher the risk of an asset-class, the harder it is to forecast its return. After all, if they could be easily forecasted, everybody would simply invest in the highest-yielding investment. A discussion of return expectations is best had directly with your financial advisor, who can explain historical returns for the various asset classes, the fees and taxes that apply to you, as well as any comments that can be made on prospective returns and risks.
In any case, even low rates of return can have substantial impact in the long term. These are lump sum investment options: $100,000 invested at the age of 30 could, at 60, add up to:
- $245,000 at a rate of 3%
- $324,000 at a rate of 4%
- $432,000 at a rate of 5%
- $574,000 at a rate of 6%
Two things are evident from this example:
- The effect of compound rates over long periods is substantial, even at low rates. At just 3%, the pot has more than doubled. Albert Einstein famously said “Compound interest is the most powerful force in the universe”.
- Even though at first glance a percentage difference might seem small, it adds up in the long run: the 6% rate is twice the 3% rate, and both might seem pretty small anyway, but the cumulative returns in pounds are over 3 times as high ($474,000 vs. $145,000)!
Taxes and Regulation
Regulations vary from jurisdiction to jurisdiction, as do taxes, and for each jurisdiction and situation there are different alternatives for the best investment structure. So for regulatory and tax questions, it is best to discuss your specific situation with your financial advisor.
We’ve discussed why lump-sum investment might be right for you. It is most appropriate for when you have significant funds available, such as from a bonus, the sale of a property, an inheritance or the decision to consolidate your portfolio. It can be carried out independently or with the custom assistance of a financial advisor, which can help ensure that the chosen portfolio is appropriate and aligned with your personal financial plan. Discussions of the best providers, regulations and taxes are best had with an advisor in light of your personal situation.
Find out more: Download our Investment Guide.
