As you move your cash, bond, and stock financial assets into lower cost, more broadly diversified investment mutual funds and/or ETFs, you should also consider how to “locate” your investment asset allocation with respect to more optimal taxation. This article will also discuss some ideas about where and how to hold your cash assets and how to make emergency cash available. (Note that you can reach us by using the contact form below.)

First, we presume that you have already properly assessed your investment risk tolerance. Using knowledge of your investment risk tolerance, we also presume that you have decided upon an appropriate asset allocation across the primary cash, bond, and stock asset classes. Then, the next question is how you will split your cash assets, fixed income assets, and equity assets between your taxable retirement investment accounts and your tax-advantaged retirement investment accounts, including traditional IRAs, Roth IRAs, traditional 401ks, Roth 401ks, and other such tax-advantaged retirement accounts.

Deciding which investment assets to hold in various types of taxable investment accounts versus tax-advantaged or tax-deferred retirement accounts is known as the “asset location” decision.

There can be substantial confusion on the part of individual investors and many investment advisors as to the best location for assets from the standpoint of taxation over the long-term. Simply put, in deciding on your investment asset location, the question is whether you should hold your stocks, bonds, and/or cash in taxable and/or tax-advantaged retirement accounts. To summarize the investment research literature, the academic consensus is that you should prefer to hold your stock or equity assets in your taxable accounts and you should prefer to hold your cash and fixed income assets in your tax-advantaged accounts.

The primary reason for this is that long-term federal capital gains tax rates historically have been substantially lower than short-term capital gains tax rates and ordinary income tax rates. Even though stocks tend to appreciate more quickly than bonds, taxation on equities can often be deferred for a very long time. In addition, when capital gains taxes must be recognized on equity asset transactions, very often these gains will be subject to lower federal long-term capital gains tax rates.

[Note, of course, we also hope that you intend to lower investment fees significantly, if you have not done so already. You can invest your equity, bond, and cash assets in very broadly diversified, passively managed index mutual funds and index ETFs with very low costs, very low turnover, and very low taxes, as well.]

Fixed income / bond assets and cash money assets usually yield income that must be recognized regularly and must be paid at generally higher ordinary income tax rates.

Including inflation which has averaged 3% annually, stocks have returned about 10% per year over the past 80 years. Alternatively, expressed in real dollars or constant purchasing power dollars without inflation included, this means that stocks have yielded about 7% annually over the long-term. For these many decades, high grade longer duration corporate bonds have yielded about 5.5% to 6% including inflation and about 2.5% to 3% without inflation. Cash has yielded somewhat short of 4% with inflation and somewhat less than 1% in real terms without inflation. (For more information about long-term financial asset returns, see these Market Risk Premiums articles published on our sister website, The Skilled Investor.)

For bonds, only a small part, if any, of longer duration fixed income yields are in the form of capital gains, which could be subject to more favorable long term capital gains tax rates. Cash does not generate favorable long-term capital gains at all. Despite the lower yields of bonds and cash, their income is usually continuous and taxable in the short-term. Particularly if you have a relatively high combined state and federal marginal income tax rate, you can lose a substantial part of your bond and cash income to taxation without the tax shelter provided by tax-advantaged retirement plans.

In contrast, even though equities have substantially higher yields, a substantial proportion of these returns can be deferred, which avoids near term taxation. Furthermore, if properly managed, most often these taxable equity returns can be taxed at lower federal long-term capital gains tax rates, when needed.

Combined, these factors mean you can net more after taxes by holding your equities investment assets in taxable accounts and by holding you bond and cash assets in tax deferred retirement accounts.

In the research studies that were mentioned above, investigators analyzed a wide range of portfolios with different asset allocations and different asset tax locations. The objective of these studies was to determine what is optimal from a tax location standpoint, and uniformly they reached the general conclusion to put equity assets subject to long-term capital gains into taxable accounts and bond or fixed income assets into tax-advantaged accounts.

Cash and cash equivalents, which tend to earn less than bonds are “located” in the middle from a tax location or tax optimization standpoint. If your particular asset allocation would me that any cash or bond assets would be held in your taxable accounts, the assets should be cash assets, because their taxable yields are usually lower than bonds. (See the related section below about cash holding entitled “Emergency cash management and your allocation of cash assets to tax-advantaged retirement accounts.”)

Your asset allocation and the total amount of assets you have in taxable versus tax-advantaged accounts combined with your asset allocation will determine whether some of your cash, bond, and/or equity assets end up being held “less optimally” from a taxation standpoint in taxable or tax-advantaged accounts.

To be clear, however, the research demonstrates that the asset allocation decision dominates the tax location decision. This means that you do not change your asset allocation decision, because of tax considerations. Instead, you hold to your asset allocation despite tax considerations. (Note, however, there may be alternative investment vehicles that address particular needs. For example, persons with very high federal, state, and local marginal income tax rates and a relatively high allocation toward bonds may find that their bonds would fill their tax-advantaged accounts and overflows into their taxable accounts. When this happens, they might benefit from holding municipal bonds rather than taxable bonds.)

Obviously, over time your assets in taxable versus tax-advantaged accounts may grow at differential rates. In addition, over time you might decide to change your asset allocation between asset classes. However, asset allocations tend to be relatively stable because they are tied to your relative investment risk tolerance, which tends to be more stable. Therefore you preferred asset allocation percentages do not have to change over time, although they may.

As time goes on, you may need to make rebalancing adjustments to maintain your asset allocation within the percentages and tolerances that you wish to maintain. This might cause some shifts in the which asset classes are held in accounts with different taxability. Nevertheless, your asset allocation decision still would drive everything.

An example of how the personal asset allocation and asset location decisions are combined

Your asset allocation decisions and your asset location decisions can be mapped onto a line that goes from 0% to 100%. First, total the cash, bond, and stock financial assets that you hold in your taxable and tax advantaged accounts, and then determine the proportions that are in taxable accounts or tax-advantaged retirement accounts.

In this example, assume that you presently hold 60% of your total cash, bond, and stock financial assets in taxable accounts. In addition, assume that 30% of your total assets are held in traditional tax-advantaged accounts, and that 10% of your total assets are held in Roth tax-advantaged accounts.

Using the 0% to 100% line illustrated in the graphic below, mark the range from 0% to 60% as your taxable assets. Mark 60% to 70% as your Roth tax-advantaged retirement assets. Finally, mark 70% to 100% as your traditional tax-deferred retirement assets. (Below, we will discuss why we have chosen to place your Roth retirement assets before your traditional tax-deferred retirement assets, as you move up this line.)

Next, on this same line we will overlay your asset allocation. Let us assume that you have chosen an overall asset allocation of 70% to stocks and equity assets, 20% to bonds and fixed income assets, and 10% to cash and cash equivalents. Along this 0% to 100% line, your individual stocks, equity mutual funds, and stock ETF assets would be assigned to the left hand side of this line or from 0% to up 70%.

Because bonds tend to be higher yielding than your cash, you would always assign your fixed income assets to the right hand side of this line. Since you have decided that you want to have a 20% bond asset allocation, then your bonds would fill in the range from 80% to 100%. Finally, your cash would fill in the space in the middle that remains between equities and bonds. In this case, you cash would be “located” from 70% to 80% along this line.

Now, what is the result? Of your 70% allocation to equities, 60 percentage points would fill up your taxable accounts entirely and the remaining 10 percentage points would overflow into your tax-advantaged retirement accounts. In particular, your 10 percentage point overflow of equities would be invested in your Roth retirement accounts. Therefore, in this example, all of your Roth account assets would be equities, since 10% of your total assets currently are equities.

For the remaining 30% of your total assets, which are traditional tax-advantaged assets in the 70% to 100% range of this line, these would be where you put your bonds and cash. Therefore, your 20% fixed income asset allocation and your 10% cash asset allocation would be held in your traditional tax-advantaged retirement accounts.

Why would equities be allocated into Roth retirement accounts versus into traditional tax-advantaged retirement accounts.

If your equity asset allocation is sufficiently high that some of your equity assets would be held in tax-advantaged accounts, then they would be invested in Roth accounts, if you have Roth account assets. Because equity assets historically have appreciated more quickly than bonds or cash, it is preferable for your stock assets to be in Roth accounts, which would not be subject to future taxation. Since traditional tax-advantaged accounts eventually would be taxed at ordinary income tax rates, you would prefer that these accounts would grow more slowly, while you would prefer that your Roth accounts would grow more quickly in relative terms.

Also, note one caveat about the example presented above. If your asset allocation and/or taxable versus retirement asset proportions were different and your equities do not entirely fill your Roth accounts, then you would fill the remainder of your Roth accounts with your bond assets rather than your cash assets. This is simply because you would prefer to have higher growth fixed income financial assets in your Roth accounts versus slower growing cash assets.

In addition to normal differences in investment asset class growth rates, there are some other personal estate planning reasons that could favor placing higher growth assets into Roth retirement accounts.

Roth retirement accounts have some very significant advantages over traditional tax-advantaged accounts for estate planning purposes. If a family’s financial model indicates that there is a good possibility that they will still have some tax-advantaged account assets at death, then those should be Roth tax-advantaged account assets, whenever possible.

US tax laws and IRS regulations require mandatory withdrawals from traditional retirement accounts after age 70 and 1/2. These mandatory withdrawals might be adequate to meet your expense needs in retirement without having to touch your Roth retirement account assets. During your retirement, your Roth accounts would not have mandatory withdrawal requirements. (Obviously, in retirement you would still have the option to withdraw either traditional retirement account assets and/or Roth retirement assets.)

Furthermore, your Roth accounts could be inherited by your children, and these inherited Roth assets could also grow tax free within the inherited Roth account over the expected life of the child. During your child’s life there would be certain mandatory withdrawal requirements that apply to them and taxes would apply to these mandatory withdrawals. This means, for example, that a child inheriting a Roth account at age 40 could perhaps enjoy another 50 years of tax-free investment growth with an income stream along the way from the mandatory taxable withdrawals. Traditional tax-advantaged retirement accounts do not provide these very significant estate planning benefits.

Emergency cash management and your allocation of cash assets to tax-advantaged retirement accounts.

Some people become concerned, if their combined asset allocation decision and asset location decision means that all their cash would be held more optimally from a tax standpoint in their tax-advantaged retirement accounts versus in their taxable accounts. Furthermore, some people also may be concerned about how much cash to hold in a taxable account for “emergency” purposes, despite whether such taxable cash holdings are less optimal from a tax location standpoint.

Often these emergency cash and tax issues are of lesser importance than they would seem at first. A decision can be made simply to keep “X” expense months of cash in a taxable account and to pay the taxes, even though this allocation might less than optimal from a tax savings standpoint. In addition, real estate lines of credit or other unused and available debt lines can be taken into consideration, which perhaps might reduce the amount of emergency cash that one desires to hold in taxable accounts.

By way of example, if your monthly expenses were $6,000, you might want to hold 6 months cash or $36,000 in a taxable savings account. Assuming that you could earn the average historical pre-tax return of 4% annual interest rate on these $36,000 dollars, your taxable savings account would yield $1,440 in additional taxable income. If your total marginal federal income tax rate and state income tax rate was 26%, then you would pay about $375 more in federal and state income taxes annually to hold this cash in a taxable account versus in a tax-deferred retirement account.

To optimize your asset tax location, you could invest your cash in a tax deferred retirement accounts and use off-setting transactions to raise cash money for emergencies.

If you did happen to have a major financial emergency, you could make some offsetting transactions to free up the needed emergency cash from your retirement accounts. In effect, cash can be “moved” out of your tax-deferred accounts when needed by selling taxable equity assets for the cash that was required and then “replacing” those assets in your retirement accounts. You would replace the assets that you sold in you taxable accounts by buying similar assets in tax-advantaged retirement accounts using the cash that you held in your tax-advantaged accounts.

Of course, these offsetting transactions could trigger capital gains tax recognition related to your equity asset sales from your taxable account sales. Over the long-term, the affects usually are quite small particularly since true emergencies consuming significant amounts of cash are relatively rare. Of course, you also might need to make overall adjustments to your asset allocation, given the emergency use of the cash. Furthermore, be aware of IRS wash sale tax rules that might apply, if you buy substantially identical investments in tax-advantaged retirement accounts, when you also sell them in taxable accounts.

Finally, concerning a smaller cash emergency fund, you still might chose to hold some amount of cash in a taxable account for ready access — perhaps a few thousand dollars or more. There could be other benefits to doing this. You may find a bank that will arrange for your savings account cash (earning reasonable interest we hope) to act as over-draft protection to your linked checking account. With such an arrangement the higher taxes associated with holding a small amount of emergency cash in taxable accounts might be offset sometimes by preventing those nasty overdraft events, when you make a mistake and bank charges mount rapidly.

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See: Pasadena Investment Advisors >>>

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Larry Russell, Managing Director

MBA – Stanford University, MA – Brandeis University, and BS – M.I.T.

Lawrence Russell and Company Pasadena, California 91103

(626) 399-9579

A California Registered Investment Adviser — Certificate 133101

KNOWLEDGE — OBJECTIVITY — HONESTY — DILIGENCE — SATISFACTION

A truly independent financial planner and fee only investment advisor

Start a conversation today — Send a message using this contact form

Financial Advisors in Pasadena California

(Regarding compensation, I work solely on a fixed fee or hourly fee for services basis, and solely under a contract that we agree upon. You do not have to pay any form of asset fee. Furthermore, to avoid all conflicts-of-interest, I never accept compensation or commissions of any type from the financial services industry.)

Get help from the top independent financial adviser helping Southern California clients in Burbank, Eagle Rock, Glendale, Montrose, Rosemead, San Dimas, San Gabriel, Silver Lake, La Crescenta, Monrovia, Pasadena, and other cities.

This is one of the “10 Steps in the Right Direction” that make up The Pasadena Financial Planner’s personal financial planning and personal investment management process. For a summary of these ten steps, see “Your Family Financial Planning.” To find an in-depth article for each step, just click the Pasadena Financial Planning Services Sitemap link at the top of this page. Also, you can reach us by using the contact form below. Please enjoy reading this article. Thank you!

You can significantly improve your net risk-adjusted investment returns by lowering your investment fees and taxes. Cut your investment expenses and capital gains taxes to the bone!

This very important financial planning step focuses on investors’ net or realized investment returns, after investment costs, fees, and capital gains taxes are taken into account. Net investment returns are those investment returns that individual investors could actually spend on themselves and their families.

EACH AND EVERY YEAR, the average individual investor spends about 2% to 3% of their TOTAL investment portfolio ASSETS on excessive investment management fees, unnecessarily high securities trading costs, unjustifiably high investment custody fees, and completely avoidable usually short-term capital gains investment taxes. Where do you think a lot of those multi-billion dollar Wall Street broker bonus payments are coming from? Directly or indirectly from your taxable financial assets and retirement financial assets is the answer. In aggregate, brokers don’t add value. Some clients seem to win on occasion, but most just keep losing, while the brokerage house always takes its cut of the action. (See: “Excessive Investment Costs are a huge problem for individual investors” published on our sister website, The Skilled Investor.)

These wasted investment costs mean that the average individual investor typically gives away between 1/4 and 1/3 of his or her annual investment returns to the securities and financial services industry. In aggregate across all individual investors, these investors will get nothing in return.

Well, that is not entirely true. In exchange for paying more to engage in high tax and high cost active investment management strategies, participating investors will be taken on a much wilder investment roller coaster. Unpredictably, active investors may experience more dramatic ups and downs. On average, in addition, they will suffer inferior investment performance due excessive investment costs and unnecessary capital gains tax payments.

The cumulative long-term impact on personal investment portfolios is simply staggering. Across all investors, these excessive costs are a complete waste. In fact, excessive investment expenses are simply an incredible wealth transfer to the securities and financial services industry. The associated and unnecessary capital gains taxes are just a wealth transfer from individuals to the government.

It is difficult to identify another industry that charges so much and promises so much to their customers, and yet ends up delivering so little in terms of added-value to their customers. Until individual investors wake up to the fact that they are paying far more than is necessary for so little in return, they are far more likely to have dramatically diminished investment portfolio assets during their lifetimes.

For more information about the value of reducing your investment expenses and controlling your capital gains taxes, see these articles on “Cost Control and Investment Performance Improvement,” which are published on our sister website, The Skilled Investor.

Human greed, personal investment ignorance, financial advisor compensation incentives, and the securities industry’s beat-the-market sales mantra are far too strong and too well-aligned for investment performance chasing by individual investors ever to end.

Unfortunately, The Pasadena Financial Planner has no expectation that the causes of excessive investment costs and wasted capital gains taxes will ever change. This beat-the-market investment management shell game rubbish will continue as long as individuals believe that they can get better risk-adjusted performance than the other guy does at no real cost to themselves. Naive investors will continue to use superior historical performance as a false indicator of what will happen in the future. They will be continually be disappointed, but only if they ever bother to check their results against the net investment yield of a low cost, low tax passive index investment strategy.

Naive individual investors, often abetted by their financial advisors, will continually pay excessive fees to investment money managers whom they hope will beat the securities markets for them. Yet, investment research studies indicate that there are no reliable ways for individual investors to identify, before the fact, superior active investment managers from within the crowd of mutual fund money managers.

The excessive management fees that are charged across the industry virtually guarantee that individual investors will not be able to hire money managers at a profit. The average mutual fund management expense ratio is about two times higher that the apparent value-added of the average investment fund money manager.

In addition, these excessive management expense ratios still do not include the much higher portfolio trading costs and higher capital gains taxes that go along with an actively managed mutual fund. Furthermore, most high cost actively managed mutual funds are sold through financial advisors who add no value in the selection process. Nevertheless, these investment counselors will still charge you a front-end sales load or a back-end sales load and will also add an annual 12b1 fee on top of the management expense ratio. What a deal!

Particularly during the last two decades of the 20th century, the fees extracted by the financial securities industry have increased substantially on both a total and a percentage of returns basis. What has the value-added been? In aggregate, the value has been negative. Furthermore, as a bonus, unwitting participants in active investment management strategies experienced a much wilder investment ride and took greater investment risks than were necessary.

Total mutual fund expenses and mutual fund management expense ratios have not decreased. To cut your investment fund costs, you have to do it yourself.

If you pay attention to the statements of mutual fund industry trade groups, you may hear claims that mutual fund investment fees have come down (slightly) as a percentage of investor’s assets during the last couple decades. However, what the fund industry fails to explain is that almost all of the new mutual funds that it keeps introducing have higher than average management expense ratios. If the mutual fund industry could get you to pay higher investment expense ratios, it would and it does when it can.

The mutual fund industry does this by launching numerous new mutual funds with high expense ratios. Then, after the fact, the mutual fund industry only promotes new funds and old funds that happened to have done well. The mutual fund industry knows that nothing sells better than the implication that superior past performance, as displayed in performance charts and with 4-star ratings and 5-star ratings, will continue. While this very selective marketing process hints that superior past performance will continue into the future, the legal small print always tells you not to count on it. For more information about the problems associated with immature mutual funds, see this article “Choose Mature Noload Mutual Funds” published on our sister website, Best No Load Mutual Funds.

Even though it is just a chimera, the mutual fund industry is counting on individual investors to extrapolate superior past performance into the future. The mutual fund industry and its supposedly “independent” financial advisors, who only promote mutual funds with sales loads and four stars and five stars, both know that these funds are easier to sell to naive investors. The fee revenues are too good to do anything else instead, such as educate investors not to extrapolate past performance. For more information about selective mutual fund marketing, see this article “How Morningstar Ratings for Mutual Funds Are Used As a Marketing Tool” published on our sister website, The Skilled Investor.

Note that the mutual fund industry will not dispute the fact that the total amount of fees that they collect has risen many times over. Invested assets have increased many times over due to investor savings and new investments and to investment asset growth and appreciation. When you charge people a percentage of their appreciating assets, then total industry fees have to go up in proportion, as well.

Percent of asset fees are a revenue and profit gravy train for the financial services industry. However, you might want to stop and ask why the industry deserves a percentage of your assets each and every year. They are YOUR assets, are they not? Why just give them away without getting incremental value in return?

Mutual fund management expense ratios have only come down because some investors have shifted their assets into low cost noload mutual funds.

If you looked more carefully at the numbers, you would find that mutual industry claims of reduced management expense ratio percentages are based on aggregate data across all types of mutual funds. These aggregate data combine both: a) the much higher costs of actively managed mutual funds with sales loads and b) the much lower costs of no load index mutual funds. The primary reason why the average mutual fund expense ratio has come down in the past, albeit only slightly, is that a substantial minority of all individual investors has gotten smarter about excessive investment costs.

More cost-conscious individual investors and certain of their more helpful financial advisors and some more cost conscious institutional investors have been redirecting increasing proportions of investment assets under their control into lower cost funds. These transfers of assets into lower cost no load mutual funds pulls down the overall management expense ratio percentage for all mutual funds.

Furthermore, returns on low cost, no load index mutual funds have been better on average than actively managed funds. Therefore, these noload mutual fund assets have appreciated more rapidly. Low cost no load mutual fund assets will also tend to be greater, because an investor’s full dollar gets invested into a noload mutual fund. Sales loads siphon away about a nickel of each dollar at the outset to pay the financial adviser through a sales load. These sales loads diminish the total amount of actively managed investment fund assets compared to noload mutual funds.

Therefore, the actions of some investors to seek lower costs have held down the growth of management expense ratio percentages and other costs. The mutual fund industry did not cause the average mutual fund investment expense ratio to come down (ever so slightly). They have been trying to push up your costs – and their revenues and profits in the process.

If you start taking investment cost cutting much more seriously, you will not be alone. The industry will not do it for you. You have to lower your investment costs yourself.

Management expense ratios and trading costs are also excessive for exchange-traded funds (ETFs).

Concerning exchange-traded funds (EFTs), you may hear the argument that ETF management expense ratios are lower than mutual fund management expenses. This is another false industry comparison. Due to the structure of ETFs, virtually all exchange-traded funds are passive index funds. Unfortunately, newer exchange traded funds that have been introduced to the securities markets increasingly have carried higher management fees and have tracked narrower and more esoteric indexes. This ETF Balkanization defeats the important goal of achieving a broadly diversified portfolio economically.

As a quick summary, here is why almost all ETFs are passively managed index funds. Since the composition of an ETF’s portfolios is known daily, an actively managed exchange-traded fund’s strategy would be exposed and would be gamed by other market participants. That is why it took until 2008 for just a few somewhat actively managed exchange-traded funds came to the market. On the contrary, actively managed mutual fund portfolios are not known to other market participants in real-time. Therefore, actively managed mutual funds can pursue their investment strategies without other professional traders knowing their strategy and trading against them.

Since ETFs are almost all passively managed index funds, then their management expense ratios and all other expenses should be compared with very low cost passive index alternatives – both mutual funds and ETFs. When you look at the management expense ratios of most ETFs you find that there almost always is a much lower cost index mutual fund or ETF that you could purchase instead.

Furthermore, since ETFs are traded on securities exchanges much more easily than mutual funds, the daily volume of ETF trading has exploded, when compared to total assets that are invested in ETFs. Mutual funds, which get priced once daily, are traded excessively by some performance chasing investors, but the amount of these trades is no where near the volume for ETFs. Furthermore, due to the mutual fund trading scandals early in this century, restrictions have been placed on short-term mutual fund trading, which occurs at the expense of longer-term mutual fund investors.

If you do not buy and hold very low cost, broadly diversified ETFs, you can easily drive up your costs through excessive brokerage fees.

ETF brokerage fees are far more likely to sink investors’ returns, than investors’ clever trading bets are to increase their exchange-traded fund returns. If you decide to invest in ETFs, you should understand the real danger of excessive exchange-traded fund trading. Only a small portion of ETFs are very low cost and are broadly diversified. The rest of these ETFs are just high priced index funds that focus on narrower and narrower securities market segments.

The more you trade ETFs, the worse you are likely to do. Remember that exchange traded funds are a brokerage industry response to the mutual fund industry. ETFs have allowed securities brokers to capture some investor assets that otherwise would have be invested in traditional mutual funds.

With a few notable exceptions, most mutual fund companies try to push up their fees by implying that their actively managed funds will beat the market. In aggregate this claim is false, and the more you spend the less you are likely to get. In the same vein, brokers selling ETFs may point to lower ETF management expense ratios and the supposed superior tax efficiency of ETFs.

However, most ETFs still have excessive expense ratios and carry the heavy added burden of brokerage trading fees. Excessive trading can easily negate any supposed ETF tax advantages. ETFs only make sense as an alternative to mutual funds, if you buy only very low cost, broadly diversified ETFs from a discount broker, and then you hold them for the long-term without trading

To obtain better net investment returns, individual investors must carefully control both visible investment management fees and more hidden investment trading costs and associated capital gains taxes.

At the same time that investment management fees and costs were rising dramatically, industry deregulation, market innovation, and increased competition provided many new and useful low cost investment fund mechanisms for investors to manage their assets in a far more cost-efficient and tax-efficient manner. Just because most other individual investors and their financial advisors seem not to have a clue about optimal investment strategies does not mean that you need to be clueless, as well. You do not have to play this game. You will not be alone, if you decide to stop listening to the siren song of superior returns and then cut your costs to the bone so that you actually have a better chance of really obtaining superior returns.

Adopting investment strategies based on scientific finance is the first part of investment cost and investment tax reduction. Low cost, passive index fund investment strategies are inherently more cost-efficient and far less risky. This is not surprising, because a fundamental goal of investment research has been to discover those strategies which maximize personal economic welfare on a risk-adjusted returns basis. It is time to pay attention to this research and to stop listening to the securities industry’s siren songs about superior investment returns.

Individuals can adopt very low cost passive index investment strategies and avoid the charade of paying much more to get inferior investment results. Furthermore, when you stop playing this game, you also stop exposing yourself to many unnecessary and uncompensated investment risks along the way. In addition, you save a lot of your valuable time. For more information about why passive investment strategies are advantageous, see this article “Passive individual investors are “free riders” who benefit from the higher costs of active traders” published on our sister website, The Skilled Investor.

The conflicts of interest between individual investors and the financial services industry continually threaten the investment portfolios of individuals and their families.

Focusing on investment cost reduction can also draw your attention to the potentially very negative personal financial impacts of biased and sub-optimal advice. The financial services industry offers products and services for investors to buy at prices that include the market value of the investment securities plus the costs and profits related to the sale and transaction. Often the true cost of the industry’s markup is obscured or hidden.

Investors need to understand that their interactions with the financial markets through these industry intermediaries are a “zero-sum game.” In and of itself, the securities industry does not create any value for you. Of course, the markets serve extremely valuable price setting and capital allocation functions within the global economy. Nevertheless, the competition between professional investors largely drives and achieves these important capital allocations functions.

Before investment costs and capital gains taxes are considered, at best, the securities markets are a “zero sum” game from the point-of-view of the interests of individual investors.

I say “at best,” because the demonstrated naivete and mistakes in personal investment management of millions of individual investors, makes it likely that their involvement in the securities markets is already a slightly “negative sum” game even before they pay such high investment fees and costs. However, when excessive “retail investor” costs and taxes are considered, then a significant portion of investors’ potential returns are simply swept away by the financial securities industry.

Particularly with the abnormally high market returns of equities-based securities during the last two decades of the 20th century, many investors became very lax about managing their investment costs and capital gains tax realization. Double digit returns made costs seem like “just few percent” and not very important. Following the dot-com stock market crash and the deflating of the equity securities asset bubble, many investors need to make cost cutting and investment tax reduction a much higher priority.

The most effective strategy you have to improve your investment returns is to cut you investment costs and investment taxes down to the bare minimum. Once you commit to this mission across your lifetime, you may discover another financial miracle. When you refuse to pay more than the bare minimum needed to buy very broadly diversified investment funds, then financial advisors who add no value will figure out that you are not an easy mark and move on. Then, you might actually have a better chance of finding a financial advisor who will provide advice that is actually in your best interests!

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See: Financial Planning Consultants in Pasadena California >>>

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Larry Russell, Managing Director

MBA – Stanford University, MA – Brandeis University, and BS – M.I.T.

Lawrence Russell and Company Pasadena, California 91103

(626) 399-9579

A California Registered Investment Adviser — Certificate 133101

KNOWLEDGE — OBJECTIVITY — HONESTY — DILIGENCE — SATISFACTION

A truly independent financial planner and fee only investment advisor

(Concerning my compensation, I perform services solely on a fixed fee or hourly fee for services basis, and only under a contract that would be agreed upon with you. You do not have to pay any form of asset fee. Furthermore, to avoid any conflict-of-interest, I do not accept compensation or commissions of any kind from the industry.)

Start a conversation today — Send a message using this contact form

Investment Advisors in Pasadena California

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