Lump Sum and Regular Investments on the World Stock Markets

Abstract

Purpose of the article: The focus of this article are lump sum and regular investments (dollar cost averaging method) on selected world stock markets in the period from 1990 to 2010 for different investment horizons. Scientific aim: The aim of this Paper is to compare and evaluate lump sum and regular investments (dollar cost averaging method) on important world stock markets according to the return-risk profile in the period from 1990 to 2010 for different investment horizons. The following world stock markets were chosen: US stock market (S&P 500 Total Return index), European stock market (S&P Europe 350 Total Return index) and Japan stock market (S&P TOPIX 150 Total Return index). Methodology: The Methodology used in this Paper is based on the quantification of return and risk indicators for different investment horizons. The following investment horizons were chosen: 1 year, 3 years, 5 years and 10 years. The Paper works with quarterly data of selected indices in the period from 1990 to 2010. Indices are used in total return form, i.e. dividends and their reinvesting on the same market are included. Standard deviation is used as the risk indicator and internal rate of return is used as the return indicator. The return-risk profile is quantified as the share of the return indicator and the risk indicator. Findings: Regular investment through the dollar cost averaging method brought substantially better (higher) values of the return-risk profile than lump sum investments made during the same period on the same market, mostly over short-term investment horizons (one-year and three-year horizons). Over longer investment horizons, regular investment with the dollar cost averaging method was still bringing better results than the return-risk profile, but given the trend of a growing US and European market, more return could be achieved with lump sum investments than regular investments made over the same period. As the Japanese stock market was stagnating, the gap between the results of the return-risk profile for regular and lump sum investments was closing with growing length of the investment horizon. Conclusions: Regular investments with the dollar cost averaging method are desirable particularly for short-term investment horizons (1-year and 3-year horizons) where volatility can be reduced thanks to the right investment timing, but the losses following a slump on the stock market are not so vast as in one-time investments (thanks to cost averaging). On the other hand, the recommendation to invest over the one- or threeyear investment horizon can partially contradict the recommendations for stock markets. Here, the shortest recommended investment horizon is five years. Regular investment with the dollar cost averaging method however significantly reduces the stock market risk also over these investment horizons when compared with one-time investments. As this Paper has however shown, even when the results of the return-risk profile were not so much better for longer investment horizons in regular investments with the dollar cost averaging method than for short-term investment horizons, investments with this method can be still clearly recommended also for these investment horizons – both for growing stock markets, and for long-term stagnating markets.