Investing

If you are in the saving and investing phase of your life, then it is imperative to pro-actively manage costs, taxes, and risks that could hinder or derail your financial plans. These are three areas where my analytical background and experience can be critical. Please use the tabs below to learn more about my investment strategies.

Investing

funds

When it comes to investing, I am a strong advocate of low-cost index funds. Many advisors select funds based on their low fees or historical track records, but it is important understand the mechanics of these funds. Whether you are interested in index funds or active managers, please click below to understand why deeper expertise is critical.

While many advisors are attracted to the low fees, it is imperative to conduct rigorous due diligence on index products. Each index product follows rules dictating how it selects securities and rebalances its portfolio. I dig deep into the metrics and models each index uses as well as the rebalancing mechanisms.

My research has identified several significant issues with many popular index products. Indeed, many products suffer from subtle performance-dampening issues imposing costs that far outweigh the advertised fees. Moreover, the increased popularity of index investing has created broader issues related to market efficiency and volatility.

While I do my best to mitigate the above issues with existing index products, investors looking for a higher degree of customization and performance may be interested in one of my personalized index portfolios. Contact me to learn more.

Selecting funds or managers based solely on historical performance exposes investors to potential bubbles (e.g., tech or housing stocks prior to the collapse of the dot-com and credit bubbles). Moreover, performance data often embeds survivorship bias and thus artificially inflates historical returns for various funds and strategies. It is critical to assess strategies and performance in an objective manner by evaluating each investment according to its mandated strategy, ability to follow that strategy, and deliver performance in excess of relevant benchmarks.

Lower-cost index strategies are constantly improving and raising the bar for active mutual funds and portfolio managers. I analyze performance and identify active managers who have kept up and outperformed their relevant benchmarks net of fees. My process weeds out many of the underperforming managers including closet-indexers (i.e., those active managers who charge higher fees but deviate minimally from their benchmark index). I also monitor the impact of turnover as taxes impose real costs and dampen the returns investors ultimately experience.

Tax Efficiency

Nobody I know likes paying more taxes than they are required to pay. However, I regularly see investment portfolios and financial plans with significant tax planning issues. Many investors and professionals fixate on minimizing current taxes, but this can be a dangerous strategy.

At a broad level, we can separate taxes into two categories. The first category is income taxes - the one most people are familiar with. The second category is investment-related taxes. These are taxes on dividends, bond interest, rental income, capital gains, etc. In my experience, investors and investment professionals tend to focus on the former, but ignore the latter. My more holistic approach focuses on both and  can achieve a greater degree of tax efficiency.

Income Taxes

If you are working or earning money, then you are likely paying taxes on the income you receive. A very common approach to reduce your tax bill is to contribute to retirement accounts. In addition to getting a deduction against your income, the money can grow tax-free for years until you take it out in retirement. At that point, many people are in a lower tax bracket and this works out favorably.

In some cases, high earners may wish to use non-deductible contributions and then convert them to Roth accounts. If they are likely to remain in higher tax brackets - even through retirement - then this approach can lock in current tax rates and allow them to keep their money in the retirement accounts their entire life without taking any required minimum distributions (RMDs).

In addition to the more common retirement accounts like 401Ks and IRAs, there are other types that allow for larger contributions. For example, contributions to SEP IRAs and personalized defined benefit plans can exceed $50,000 and $200,000 per year, respectively.

The bottom line is that one can manage the timing of their income taxes to a large degree and it is important to use this flexibility to your advantage.

Investment-related Taxes

When I use the phrase investment-related taxes, I am referring to taxes related to dividends, interest, rental income, and capital gains. These are related to and should be considered in conjunction with income taxes. However, they are not the same and different tools and strategies are used to manage them. Below I discuss five key strategies to minimize investment-related taxes:

  • Exchange traded funds (ETFs): For portfolios in taxable accounts, I believe ETFs are essential ingredients. Unlike mutual funds which regularly make investors pay taxes on capital gains, the mechanics of ETFs allow them to rebalance their portfolios without triggering capital gains for their investors.
  • Tax harvesting: Another key element of tax-efficient planning is tax loss (or gain!) harvesting. This strategy involves the selling of investments that have declined in value to lock in losses. The idea is to replace these with similar investments right away so the portfolio is not meaningfully changed, but the loss creates a buffer for taking gains elsewhere in the portfolio.
  • Asset location: Many investors have different types of investment accounts like taxable (e.g., standard brokerage), tax-deferred (e.g., traditional IRA), and tax-free (e.g., Roth). So it can be helpful to place (or locate) one's investments in particular accounts. For example, bonds are typically a slower growing investment and their interest is taxed as income (rather than capital gains). So it is often advantageous to place them in a traditional IRA account. While rules of thumbs are useful, a mathematical optimization is generally required to get the most out of asset location strategies.
  • Deferring tax: Bonds and other fixed income investments are notoriously tax inefficient. Simple income annuities can reduce or defer many of these taxes for years. These products can produce significant benefits and I have published original research on this topic (optimizing fixed annuity tax deferral). However, please beware of commission-maximizing salesmen who highlight the tax merits of variable and index annuities. The article linked above explains the potential tax issues these products have.
  • Advanced planning: For investors open to more advanced planning techniques, there are private placement products (e.g., life insurance and variable annuities) that can be structured to reduce taxes. These products have evolved significantly and their prices have become more competitive in recent years. Note: While I conduct due diligence on these products and may recommend them for clients, I am not a broker and cannot transact or receive commissions on these types of products.

Risk Management

In addition to targeting specific goals and objectives, financial planning should also reduce the variability around those outcomes. In particular, it is important to minimize or eliminate threats that could hinder or derail your entire financial plan. That is why risk management is an essential ingredient - whether you are working and saving or already retired.

In some cases, you may choose to self-insure particular risks. In other cases where the stakes are too high, you may simply not be able afford to take the risks. Below we highlight a few key areas where risk management can be prudent.

Note: I generally find insurance products are oversold and structured to maximize commissions for the broker rather than utility for the client. As a fiduciary, my clients' best interests are always my top priority. Moreover, as a math PhD with extensive experience working with insurance companies on both side of the fence, I engineer solutions to maximize the value they provide to my clients.

Risk Management for Savers

For those who are in their saving and investing phase, there are three key areas where I advise on the use of insurance as a tool for risk management:

  • Earnings insurace: When you are working and saving, your future earnings are often your largest asset. Life insurance can help minimize the financial burden in these unfortunate situations. They can also be tailored to decrease coverage through time. This can lower the price and more precisely target the lost income.
  • Disability: The role of disability insurance is similar to life insurance and can be particularly for those whose careers involves a significant amount of physical activity (e.g., doctors and dentists).
  • Buy-sell agreements: Businesses with multiple owners often execute agreements to buy each other out under various circumstance (e.g., disability or death). Life insurance can be structured in such a way to seamlessly fund these transactions should the situation arise.

Risk Management for Retirees

For those who are nearing or already in retirement, here are two areas where insurance can be a useful tool for risk management:

  • Long-term care: Retirees often get to a point where they can no longer perform everyday activities on their own and the care they require may be expensive. I can help decide between the various solutions to cope with this risk including setting aside money in reserve, long-term care insurance, dual-purpose assets, and family support.
  • Guaranteed income: Making sure one does not run out of money in retirement is naturally a key consideration. I am an expert at structuring cost- and tax-efficient solutions using income annuities. Please get in touch if you are interested in guaranteed streams of income being a part of your retirement planning.