We strongly believe an informed and educated client will be a more successful steward of wealth. Sadly, the financial press and investment managers will keep filling your inbox and newsfeed with new and exciting products. Flatrock’s “Newsclips” are designed to filter out the unproductive noise and help make sense of the headlines. Further, we dig deeper to bring you some research and perspectives, while off the beaten path, offer substantive lessons for long-term investment success.
This month we look at “Boomer Candy” ETFs, how to counter misinformation, critically looking at alternatives, and capital gains data on affluent households.
WSJ: These Hot New Funds Are ‘Boomer Candy’ for Retirees
Strategies that use options to provide some combination of alternative income and downside protection are booming. According to FactSet, these funds collectively manage nearly $120 billion in assets and have attracted at least $31 billion from new investors over the last year. Much of the demand is coming from those nearing retirement who want to not totally abandon the stock market. Conventional wisdom states retirees shift assets to safer investments like bonds. But a recent bull market makes many hesitant to miss out on more gains.
Flatrock’s Take: Maybe retirees need the same warning as 5-year-olds. Don’t take candy from strangers! Insurance isn’t free. If you want to limit your downside risk, you will pay a premium to someone to take that risk off of your plate. The investors on the other side of the trade are compensated for bearing your downside risk. Hence, strategies aimed at mitigating this risk inherently carry the cost of this “insurance” in the options contracts and typically have higher fund expenses. Further, alternative income strategies tend to be brutal after taxes. Combined, these lead to lower risk-adjusted returns over long time periods. [i] If the downside risk of an asset class seems too great, it may be more beneficial to simply reduce exposure rather than paying for expensive and tax inefficient insurance through options.
World Economic Forum: These 2 internal biases cause us to fall for misinformation – here’s why
The article discusses how internal biases, specifically confirmation bias and black-and-white thinking, make us susceptible to misinformation. It emphasizes the importance of recognizing these biases and combating them by critically evaluating evidence and questioning the incentives and methodologies behind claims. This awareness and critical thinking help prevent the easy acceptance of misleading or simplistic information.
Flatrock’s Take: Professor Alex Edmans of London Business School is a great follow (and former colleague of John’s.) We see confirmation bias routinely in investing where economic or market news are filtered by managers and advisors to confirm their worldview. Black-and-white thinking similarly leads to suboptimal decision making. The world is grayer than we’d like to admit.
We particularly appreciate Edmans’ observation that a key way to overcome these is to “consider the authors.” Much of the “research” that comes across our collective desks is really veiled product pitches confirming – in often black and white terms – an existing strategy or trade. Paraphrasing Andrew Ang, it’s like believing cancer research from cigarette companies. Always consider the source!
Citywire: As alts shops come calling, one RIA has a warning: Beware their ‘research’
Andrew Ang’s sentiment was echoed by our own John West, warning against uncritically accepting alternative investment pitches that often lack rigorous, peer-reviewed data. Flatrock emphasizes the importance of scrutinizing the real net returns of these investments, considering the impact of fees and taxes.
Flatrock’s Take: Not applicable. It’s in the article!
Tax Policy Center: Income from Capital Gains
In 2021, capital gains made up approximately 14% of all adjusted gross income (AGI) in the U.S., though this percentage was much higher among high earners. For individuals with an AGI exceeding $1 million, capital gains represented 42% of their total income, highlighting a significant reliance on investment income in this income bracket.
Flatrock’s Take: The realized capital gains are a substantial part of investment income for affluent households. And most households have sizeable *unrealized* capital gains across their capital stack, including primary residences and private businesses. So naturally using one’s investment portfolio to harvest losses is a critical value-add for these households. Tax loss harvesting in custom indexes and/or tax aware long short equity portfolios has been shown to reduce these future liabilities.
Let us know if you would like to dive a bit deeper on any of these topics. Markets fluctuate. Priorities change. We’re here to help.
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Flatrock Wealth Partners LLC (“Flatrock”) is a registered investment advisor.
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[i] See https://www.pm-research.com/content/iijpracapp/5/3/112