The markets closed today without the severe daily swings to which we have (almost) become accustomed.\u00a0 The Dow Jones index traded in a fairly tight range and closed up nearly 200 points.\u00a0 Investors can consider that a small victory.\u00a0 The VIX, which measures market volatility (or \u201cinvestor fear\u201d), closed down nearly 5 points.\u00a0 Another win.\u00a0 Oil prices traded up 24%, which was a one-day record and, setting aside your desires at the gas pump, a very good sign for the commodities market.\u00a0 So, all in all, not a bad day.\u00a0 Welcome to Spring.<\/p>\n
We know that we are not out of this crisis.\u00a0 In fact, we think these are still the early days.\u00a0 There is no way to know how long the coronavirus will continue to affect us.\u00a0 That will not be clear until we see the number of new diagnosed cases reduced to zero.<\/p>\n
So, we will take this lull in this storm as an opportunity to highlight some investment strategies you may want to consider in a bear market.\u00a0 It\u2019s likely that not all of these will apply to you.\u00a0 But some of them may.<\/p>\n
#1 – Do Nothing<\/strong> We advocate \u201cdo nothing,\u201d because your inclination right now may be to run from the danger you perceive.\u00a0 As we discussed a few days ago, that was the appropriate action for humans for thousands of years.\u00a0 However, it is not appropriate for investors in March of 2020.\u00a0<\/p>\n Instead, now is the time to wait, to be patient.\u00a0 Wait for the markets to recover.\u00a0 How long will that take, you ask.\u00a0 You know the answer.\u00a0 No one knows.\u00a0 It could be weeks or months.\u00a0 It could be longer. We do know that the average time it takes for the market to recover from a bear market is about 14 months.\u00a0 But this is not your generic bear market.\u00a0 So, expect that it could take longer.<\/p>\n Hunker down and plan to wait it out.\u00a0 If we\u2019ve built a financial plan for you and we\u2019re managing your portfolio, you can wait.\u00a0 Your plan was built to withstand a crisis like this.<\/p>\n #2 – Double Down<\/strong> There are a variety of ways to do this.\u00a0 You can invest a lump sum right away.\u00a0 You can invest in tranches over time (e.g. every month, every quarter, etc.) or market triggers (i.e. if\/when the Dow hits X, you invest again).\u00a0 You can combine these strategies.\u00a0 The key is to come up with a plan, execute it, and not alter course.<\/p>\n We understand that they very idea of this may make you nauseous.\u00a0 We get.\u00a0 Stay on the sidelines.\u00a0 But, if you are salivating at the idea of buying stocks on sales, this is your opportunity.<\/p>\n #3 – Rebalance<\/strong> Rebalancing involves selling asset classes which have risen in value and buying those which have lost value, with the intention of bringing your investment mix (or \u201casset allocation\u201d) back to its desired target.\u00a0 Clients sometimes balk at doing this.\u00a0 Why sell the things that have done well (or less bad)?\u00a0 Because we want to maintain our desired asset allocation.\u00a0 It\u2019s the one we determined was appropriate for you, given your goals, age, investment horizon, need for liquidity, and risk tolerance.\u00a0<\/p>\n In a normal environment, we rebalance every 12 months.\u00a0 We rarely waver from this practice.\u00a0 However, we\u2019re not in a normal environment right now.\u00a0 So, if you would like to discuss rebalancing your portfolio, please let us know.\u00a0 We can tell you if there would be tax consequences.\u00a0 Transaction costs are generally minimal.<\/p>\n #4 – Tax Loss Harvesting<\/strong> Here\u2019s an example.\u00a0 You bought fund X for $1,000 a year ago.\u00a0 Your shares in fund X are now worth $800.\u00a0 So, you have a $200 unrealized loss.\u00a0 To harvest this loss, you would sell your shares in fund X.\u00a0 You have now a realized loss of $200.\u00a0 You can use that loss to offset other realized investment gains, or as an offset against ordinary income.\u00a0 Note that the annual limit for offsetting investment losses against income is $3,000.\u00a0 But losses in excess of $3,000 can be used for subsequent tax years.\u00a0<\/p>\n Now you have $800 to invest in the same asset class that was represented by fund X.\u00a0 Assuming your intent was to have $1,000 in that asset class, you should round up another $200 and invest $1,000 in a fund that is similar to, but, again not \u201csubstantially identical\u201d to, the fund you sold.\u00a0 The IRS has not provided much guidance about what these terms mean for investors.\u00a0 But we have been harvesting losses in this manner for many years, and we have never had the IRS question a transaction.<\/p>\n #5 – Roth Conversion<\/strong> Since it\u2019s safe to assume that your traditional IRA has lost value, now may be an ideal time to take some or all of it and move it to your Roth IRA.\u00a0 You will pay less tax than you would have had you done this six months ago.\u00a0 But this strategy only makes sense if you are age 59 \u00bd or older, and you have cash on hand to pay the income tax you\u2019ll owe on the distribution from your IRA.\u00a0<\/p>\n Let\u2019s imagine that you own an emerging markets stock fund in your IRA.\u00a0 At the beginning of the year, that fund was worth $100,000.\u00a0 Today it’s worth $67,000, a 33% loss.\u00a0 If you had sold that fund and pulled the proceeds out of your IRA in January, you would have paid taxes on $100,000.\u00a0 But now you can sell it and pay taxes on only $67,000.\u00a0\u00a0<\/p>\n You know you want to maintain your exposure to emerging markets, so you take the $67,000 and buy an emerging markets fund in your Roth IRA with the cash.\u00a0 You should also have cash available in the bank to pay the tax on the additional $67,000 of income you’ll have to report.\u00a0 Otherwise, you’ll need to withdraw additional funds from your IRA to pay the taxes, and this makes the IRA-to-Roth conversion less attractive.\u00a0<\/p>\n Hopefully, emerging markets stocks bounce back to previous, higher values.\u00a0 The net result is that you moved money from an account subject to ordinary income taxes (i.e. your IRA) and moved them into an account that\u2019s tax-free.\u00a0 Further, there are no required minimum distributions for your Roth IRA as there are for your IRA.<\/p>\n We\u2019ve covered five strategies for astute investors.\u00a0 If you have any questions, or would like to learn more about any of these ideas, please let us know.\u00a0 This crisis may have dealt investors a bushel of lemons.\u00a0 But the savvy investor will turn them into lemonade.<\/p>\n
\nHopefully, you\u2019re chuckling at that.\u00a0 If you are quarantined at home, you might feel that you are doing too much of \u201cnothing.\u201d\u00a0 But we are referring to taking action regarding your portfolio.\u00a0 Values across all asset classes are down significantly.\u00a0 In fact, it may be wise to just avoid looking at the your account values for the time being.\u00a0<\/p>\n
\nThis is for the brave among you.\u00a0 Investments are on sale in a way that they have not been in a very long time.\u00a0 If you like to buy things at a discount, here\u2019s your opportunity.\u00a0 If you have been holding on to cash that you won\u2019t need for a few years, then consider investing in your portfolio.\u00a0<\/p>\n
\nYour actual mix of investments is now probably out of balance with respect to its target mix.\u00a0 We can say that without looking at it, because all asset classes have changed value over the past month.\u00a0\u00a0\u00a0 Stocks have fallen significantly in value.\u00a0 Some bonds have also dropped a hit.\u00a0 Money market funds, bank accounts and cash are where they were when this crisis started.\u00a0<\/p>\n
\nIf your managed portfolio includes a taxable brokerage account, and holdings in that account are currently \u201cunderwater\u201d (i.e. they\u2019re worth less today than what you paid for them), there is an opportunity to sell the position, realize a loss, and use the loss for tax purposes.\u00a0 You don\u2019t want to be out the asset class that the investment you sold represents.\u00a0 So, you would immediately buy another security (ETF or mutual fund) that provides the same exposure.\u00a0 Note that it\u2019s important to avoid buying a security that is \u201csubstantially identical\u201d to the one you sold for 30 days, in order to avoid the IRS wash sale rule.\u00a0 If you fail to do so, the tax loss is disallowed, and the amount is added to the cost basis of the new fund you purchased.\u00a0<\/p>\n
\nYou probably know that there\u2019s a difference between a traditional IRA and a Roth IRA.\u00a0 But, just in case, here\u2019s a quick reminder.\u00a0 A traditional IRA is funded with pre-tax contributions, growth is tax-deferred, and distributions are taxed as ordinary income.\u00a0 In contrast, a Roth IRA is funded with after-tax contributions, growth is tax-free, and distributions are tax-free. Think of a traditional IRA as \u201cpay no taxes now, but pay taxes later\u201d, and a Roth IRA as \u201cpay taxes now, and pay no taxes later\u201d.<\/p>\n