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Investing

What To Consider When Adding Funds To Your Portfolio

Calvin Lo

Do you have a system when adding funds to your portfolio? Or are you just buying whatever you deemed is best at the time?

In the past when adding funds to my portfolio, I used to just buy whatever stock I deemed undervalued or had strong momentum at the time.

However, I quickly ended up with a haphazard portfolio. I didn’t have a plan for which stocks I would add to in advance. Without a plan, I often spent many hours agonising on which stock I should buy in any given month.

Eventually, I realised that I had to have a systematic way to decide which assets to buy when adding funds every month. Having a system also helps to reduce the time spent every month managing my portfolio.

Here are a few things I had to consider when creating my system.

Monthly Contributions or Lump Sum?

Many of us would probably be drawing a monthly pay check from a day job, and therefore might be contributing to our portfolios on a monthly basis.

If you’re adding funds to your portfolio every month, the main drawback is incurring high transaction costs. Fees can add up fast if you’re trading every month, especially if you’re adding to more than one position. Try to keep the number of holdings low so that you won’t end up having to add to multiple positions every month. Personally, this is one reason I’m trying to reduce the number of holdings in my portfolio.

The main advantage of adding monthly is that you can dollar-cost-average (DCA) into your positions. By adding a fixed dollar amount every month, you’d be buying lesser units when prices are high but more units when prices are low. By systematically adding monthly, we are also freed from the stress of timing the market.

You might be able to save on transaction costs if you’re investing a lump sum. However, adding a lump sum increases the importance of timing. Should you invest a lump sum coinciding with a market peak, it might adversely affect your returns if the market declines afterwards.

I would consider adding anything more than 10% of your existing portfolio value to be a lump sum investment. Although most of the time I’m adding funds to my portfolio on a monthly basis in small increments, there are instances where I would pump in more substantial amounts. One such instance is a bonus payout, which can be several months’ pay coming in at once.

Deciding whether to invest a lump sum all at once or to break it up into smaller increments would depend on the opportunity cost of holding cash vs the likelihood of a market decline.

In this current environment, the opportunity cost is significant considering bank deposits only pay roughly 0.5% per annum. When you compare this to the 10-year rolling average annual return of the S&P 500 index of around 9-11%, that difference can be huge especially over many years. If you’re a long-term investor, that’s a no-brainer. The sooner you can deploy cash into compounding assets, the better.

If you’re worried about timing, consider breaking up the lump sum into 2-3 equal parts over a quarter and buy diversified index funds instead of individual stocks.

Value or Cost Basis?

Do you add funds to assets that have declined or to those that have appreciated?

If you track your portfolio asset allocation according to the market value of your holdings (value-basis), you would be adding more to assets that have declined and less to those that have appreciated. In theory, this might seem advantageous as a method to ‘buy low, sell high’. Another benefit is that adding funds this way would result in us rebalancing our portfolios every month.

However, if you track your portfolio asset allocation according to purchase costs of your holdings (cost-basis), you would instead be adding to every asset systematically regardless of market value. The main advantage of this method of adding funds is that we need not be concerned about the gyrations of the market and be less tempted to time the market when pulling the trigger.

I used to add funds by the value-basis method because I found that it helps me to rebalance my portfolio every month. However, I ended up adding to my losers more often than my winners. In fact, sometimes I’m even forced to sell some of my winners to be able to balance the portfolio at the end of the month.

In the short-term, this rebalancing does result in ‘buy low, sell high’ but I quickly realised that as a long-term investor this was actually negatively affecting my returns when done systematically. I learnt the hard way that low can go lower, and also that high can go higher. Value-basis method was causing me to sell my winners early and add to my losers.

I’ve since switched to adding funds according to the cost-basis method. My main motivation was to allow myself to add to my winners systematically and reduce valuation bias. The main drawback is that my portfolio will deviate from my original intended asset allocation. This might be a concern as I get closer to retirement but at the moment I don’t see it as much of an issue.

Concluding Thoughts

Adding funds to your portfolio might seem simple, but comes with many considerations especially if you have multiple positions of various asset classes.

How you add funds to your portfolio also materially affects your portfolio returns, especially if you do so frequently.

Take the time to thoughtfully create your own system of adding funds. By having a system, you can free up the time you might be spending trying to figure out which asset to buy every time or remove obstacles that might be holding you back from putting your money to work.

How do you add funds to your investment portfolio? Do you have a different method?

Disclaimer: This is not financial advice. I am not professional financial advisor nor do I work in the finance industry. Anything I write here is purely my personal opinion. Please do your own research and due diligence before investing into anything. All investments come with associated risks. Best to consult a financial advisor if you’re still unsure.

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