Other than people looking to get started investing, by far the most common correspondence I receive from readers is the profile of someone who received a significant amount of money either through selling a business or receiving some kind of inheritance, and is looking for help on what to do.
Most of the conventional wisdom that you can find on the topic just by doing a quick google search is quite good—take a few months to just chill out and *think* before rushing to do anything, don’t look to make any concentrated bets (which is a slightly different way of saying that you should diversify), and so on.
The one piece of advice that doesn’t show up nearly enough, and you kind of have to look for it online to find it, is this: time diversification. If I suddenly had $1 million to invest, I would not instantly convert it into a $40,000 income stream (although I can see how a savvy investor could make this work well and construct such a portfolio with ease). Instead, I would craft a four or five year plan to gradually deploy the $200,000 annually so that the process would be along the lines of “Oh, I bought 1,000 shares of AT&T in January 2015” and then I bought “1,000 shares of Coca-Cola in March 2015.” A couple months after that, General Electric was the next line.
What’s the appeal of taking it slow? A couple of things. It recognizes the psychological importance of the need to get it right; this isn’t where you’re having a couple hundred bucks taken out of a paycheck and put into a 401(k). No, this is the focal point where you can either erase decades of hard work and having nothing materially to show for a lifetime of hard work or, if you choose prudently, can ensure a high quality of life where you don’t have to spend your time in typical American fashion waiting for the Friday paycheck so you can go out and get food, pay the rent/mortgage, get the electric bill paid, and so on.
The psychological temperament of almost everyone you ever meet is such that they would enter something resembling a depression if they set aside $1,000,000 in a 2007 type of situation and then saw it turn into $700,000 within twelve months. Most people would get miserable because they would think that has money has been permanently lost. I suspect that typical readers of this site would take it more in stride, in a just-stubbed-my-toe type of manner, frustrated by all of the permanent dividend income that could have been purchased at the later date.
Time diversification ensures that this never becomes your story; if you buy 1,000 shares of Coca-Cola in 2015 and the company falls 30% as part of a broad market selloff the next year, then you still have a lot of remaining funds to deploy. If there is no recession or broad decline immediately coming, then you get a couple years of dividend growth and profit growth to cushion you before the next market decline. In the case of Coca-Cola, you’d be collecting $1,220 this year, $1,220+ in the following year, and $1,220+ in the year after that to absorb some of the shock, and furthermore, Coca-Cola’s profits will be higher in 2017 so that the decline becomes more manageable.
After all, if a broad selloff took Coca-Cola down to 15x earnings in 2014 when its profits were around $2.20, that is a price of $33 per share. If the next steep decline came in 2017, when Coca-Cola was making $2.60 in profits, not only did you collect all of those dividends, but the 15x earnings sale price would imply a price of $39. With each year of profit growth, the floor on the stock grows higher. Combine that with the dividends collected, and you are creating your own style of capital preservation.
Time diversification does have some drawbacks. If you’re sitting on money in cash instead of putting them into productive assets, you are by definition not collecting the dividends, rents, and interest income that the money could be throwing off.
The great quote from Benjamin Graham on this topic is the following:
“It is far from certain that the typical investor should regularly hold off buying until low market levels appear, because this may involve a long wait, very likely the loss of income, and the possible missing of investment opportunities. On the whole it may be better for the investor to do his stock buying whenever he has money to put in stocks, except when the general market level is much higher than can be justified by well-established standards of value. If he wants to be shrewd he can look for the ever-present bargain opportunities in individual securities.”
The other drawback is that, two years out of three, stock prices in the United States end the year higher than where they were at the beginning (using the 20th century American stock market as a guide). Imagine how much it would stink if you came into a large sum of cash at the start of 2010, and then set a five-year plan of investment instead of making a lump-sum investment at the start of 2010. Obviously, you would have missed out on a lot of dividend income and wealth over the past five years. So I don’t pretend to think that pursuing time diversification rather than lump-sum investing is a strategy without risks of its own, particularly in the form of foregone wealth that could have been created by immediately putting the money into productive assets.
Like everything else, it comes down to what style of investor you are. For someone coming in to significant money due to a one-time event, I would think the priority of wealth preservation would override wealth creation. It’s easy to do something stupid all at once. It’s easy to buy a whole lot of stock in the year right before the stock market takes a significant dip. But if you draw up a three, four, or five year plan and commit to gradually building positions in high-quality stocks, bonds, and even real estate, you are adopting a strategy that says, “I’m too old for heartache and going back to the drawing board. Avoiding cardiac arrest is more important than doubling my net worth or potential income.” For conservative investors looking to invest one-time income well, time diversification is an element that deserves serious consideration.