Choose an Advisor
Unless you have experience with investing, you may want to speak with a financial advisor before you decide what to do with your cash. In most cases, a fee-only adviser with a Certified Financial Planner (CFP) designation is a wise choice because stockbrokers, bankers and insurance companies usually work for commission. When they’re getting paid to sell you a particular investment over another, they may not be working entirely in your best interest.
Before You Receive Your Lump Sum
Depending on how much money you are due to receive, and assuming you have a little time before you receive your cash or check, you should begin looking for a place to hold your money. It’s important not to rush the decision. Research savings vehicles or security types carefully to invest your cash. You may have more than one use for your cash windfall. For example, you may want to pay off debt with a portion, give some away, use some for a well-deserved vacation and use the remainder to invest for retirement. Any amount you do not use within a few weeks’ time can begin earning interest.
Consider Short-Term Liquid Options
In most cases, you will invest in a money market fund for short-term cash needs. Money market funds are interest-earning savings vehicles that are liquid, which means you can generally deposit and withdraw from them at any time (or at least a limited number of times per month) without penalty or fees. Investors can typically buy money market funds at mutual fund firms, brokerage firms, and banks. Vanguard Cash Reserves Federal Money Market Fund (VMMXX) and Fidelity Government Cash Reserves (FDRXX) often have some of the highest yields for the larger, well-known financial institutions. (As of June 21, 2021, the Vanguard Cash Reserves Federal Money Market Fund was closed to new investors.)
Determine Your Objectives
It may sound too obvious, but you need to have a vision or structure for your money, or what will eventually be your investment portfolio, before you invest it beyond the money market fund. You don’t want to leave your cash in a liquid savings vehicle like that for too long, or you may be missing an opportunity to make your money work harder for you. Before you can decide that, though, you need to know what you’re hoping to earn and why. A financial planner would call that vision your “investment objective.”
Lump-Sum Investing vs. DCA: Jump in Now or Slowly Invest Over Time?
Whether you put all your cash to work immediately or periodically invest portions with dollar-cost averaging (DCA), you need to base your decision on your investment objective and risk tolerance, not what is happening in the stock market or economy at the given moment. For example, if your time horizon is 20 years, you can invest the entire lump sum of money into your chosen investments all at once, because the total return over that long of a period of time will not change much by timing that far in advance. There is more risk of decreasing your average returns by leaving too much of your cash in a money market account rather than investing it immediately. People who may want to dollar-cost average into their investments include those who have low risk tolerance or those investors whose time horizons are not clear. For example, a person in their 60s who is saving for retirement may still have a 20-year time horizon. However, they do not know with certainty how long they will live. Therefore, that person may want to dollar-cost average their lump sum into their investments over a period of time, such as one to two years. That way, if there is a dramatic decline in stock prices, the investor can minimize losses and maximize future returns by investing a specified amount, once per month, over several months or a few years.
The Bottom Line
To summarize, the primary deciding factors in figuring how to invest your windfall will be your investment objectives, risk tolerance, and what you want the money to do for you in the short run and in the long term. Consulting with a financial advisor can help you sort out these factors and decide what to do with your money.
