by Derek Hart, Russell Investments
Editor’s note: We previously wrote about turning lemons into lemonade on March 17, 2020. Here’s an updated version scripted for today’s market.
The #1 question I get asked when I am speaking with advisors is, What actions are other advisors taking right now? As we have seen volatility increase in recent weeks, I am getting this question more than ever. With most asset classes trending lower per our asset class dashboard as of April 30, 2022, it sure feels like the market is giving us lemons. When this happens, advisors don’t just have to sit and wait around for the market environment to change or improve. Instead, there are proactive actions they can take to positively impact their business and their clients during this type of environment. At Russell Investments, we call this making lemonade out of lemons.
Across the industry, there are many taxable accounts that are commonly referred to as locked up. This means they are taxable accounts with an embedded gain—meaning that even if an advisor or client wanted to make changes, there are no meaningful ones that could be made without creating a taxable event. Oftentimes, both advisors and clients WANT to make changes to these accounts. They want to increase diversification, manage the risk, or reallocate to a more tax-efficient strategy—but typically no changes are made to avoid the potential tax bill associated with making the change.
We believe the market pullback has presented significant opportunity for this specific type of scenario. Many advisors are taking advantage of the opportunity to reposition existing taxable accounts now— in other words, they are making lemonade with the lemons the market has given them.
Our top 3 reasons advisors are repositioning taxable accounts
- To increase the tax-efficiency moving forward
- To increase diversification
- To rebalance the portfolio to align with a client’s financial plan
There are many opportunities in this type of market environment to both help streamline your business and to improve clients’ alignment with their financial plan. Below we have outlined the top areas we are seeing advisors reposition portfolios in.
Our top 3 sources to make lemonade
- Concentrated stock positions
- Existing portfolios that are not being managed for taxes
- Client held away accounts
Concentrated stock positions
The majority of the time, this refers to company stock, but we also see advisors helping clients who have individual stock portfolios that they are building. In many conversations, clients know they need to diversify—but life gets busy, and they don’t make it a priority. We are seeing this change. As volatility has picked up, the need to diversify all or a portion of these stock positions is becoming increasingly top of mind for investors.
Existing portfolios that are not being managed for taxes
We are seeing some advisors reposition both existing managed accounts in addition to portfolios currently in brokerage. 2021 was the highest capital gain distribution year in the last 20 years, with the average capital gain distribution for a U.S. equity fund coming in at 12%, according to Morningstar. Additionally, the revenue collected from individual income taxes increased 18% from 2020 to 2021, according to the U.S. Department of Treasury. With the average investor likely paying more in taxes than in previous years, taxes continue to be an important topic and area where we believe advisors can add a tremendous amount of value to the client experience. Repositioning existing portfolios to be more tax-efficient in the future can be a way to add value to your client relationships.
Client held away accounts
The current environment has many investors requesting second opinions on their investment portfolios. There are many different potential reasons for this, but the two biggest reasons we see are:
- Many clients were shocked by their Form 1099-DIV last year, and were not happy with the amount of taxes they paid on their investments
- The market pullback has clients wondering if their portfolio is diversified appropriately and aligned with their goals
As an advisor, by offering a complimentary portfolio review and tax analysis, you can identify potential held away accounts of current clients and see if the portfolio they currently have is appropriately aligned to their financial plan.
The bottom line: How your Russell Investments team can help
We have a number of client-friendly tools and resources to support your conversations and help you make lemonade in the current market environment. In addition to analyzing portfolios for tax-efficiency, we can also analyze the potential tax impact to reposition. We have several unique ways that we can highlight the potential benefit to clients, so they understand the value of the actions you are taking. Connect with your Russell Investments team today.