Is There Such A Thing As A Tax-Less Portfolio

Let's look at a couple of quick theoretical portfolio ideas. Not sure where this first one came from but it's interesting.

It's quadrant-inspired to some degree with 30% in precious metals, 25% in equities, 40% in very low vol, specialized fixed income and 5% selling volatility. It's been less volatile with smaller drawdowns which is good. You can see periods where it has lagged, then caught up and recently pulled away. In 2022 it outperformed by about 11 percentage points, going down much less. 

I asked Copilot to back test the idea from 2010-2020. I used client/personal holding Merger Fund instead of cat bonds and I just said selling OTM S&P 500 puts to replicate WTPI.

In the same period, VBAIX compounded at 10.2% with volatility of 10.26% and a max drawdown of 22.77%. I wanted to isolate the 2010's because it wasn't a great time for precious metals returns. 

Something I haven't needed to manage much in my practice is clients with taxable accounts who are in the 37% tax bracket. I've been doing some subadvising for an advisor who most of his clients are taxable accounts in that tax bracket. In trying to think about portfolio construction, of course the conversation includes "what about AGG or BND" which both track the benchmark Aggregate Index.

From inception in 2004 through to year end 2021, so excluding the regime change that started in 2022, AGG's compounded total return was 3.82% and the price only compounded return was 59 basis points per testfol.io. So the vast majority of the return has been from the yield. Yield that is taxed as ordinary income. Thinking this through, the yield, less the taxes, less the rate of price inflation and there's not much left over. I've never used AGG or BND so this is an interesting way to think about them. 

A high income-tax-bracket investor probably should not have a core position in a fund like this. I do want to make one distinction. I am saying a 60/40 portfolio shouldn't put 40% into these. I could see where weaving in a slice of one of them because it creates some sort of desired outcome when blended with other income market exposures is a very different thing. Just because I don't use AGG or BND that way doesn't mean there are ways to do that. 

Someone recently said to me, if you see a problem, it would be nice to offer a solution and the ETF market does have a solution. 

The backtest is short due to the inception date of client holding BOXX. BOXX has no yield (it paid 1/4 of 1% last year in capital gains) and BALT has not paid any distributions. BOXX and BALT are not without their flaws and where there are these two dividend-less funds with very low volatility, there must be others. The yield in the portfolio we hope is more tax efficient comes from the S&P 500. This past summer the Roundhill S&P 500 No Dividend ETF (XDIV) started trading and as you can see by the name it will avoid paying dividends. It's too soon to draw any conclusion about that fund but so far, no catastrophes.

The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. They are not intended to constitute legal, tax, securities or investment advice or a recommended course of action in any given situation.