I was recently at a conference for independent financial advisors hosted by Charles Schwab. After a three-year hiatus, this annual conference was finally back in person. My favorite aspect of these meetings is not the presentations, entertainment, or even the location, but rather the opportunity to engage with other financial advisors from around the country.
Over the years, at dozens of conferences, I have been able to network with hundreds of other advisors. These conversations have shown me areas where we excel as a firm and given me ideas of where we can improve. After this conference and a number of discussions with other large firms, one of the more striking realizations is how sophisticated our trading system is.
As a firm, we manage investment accounts for hundreds of clients and literally thousands of accounts totaling hundreds of millions of dollars; therefore, our trading system has specific requirements. Let me explain how this system works and how it benefits our clients.
We use a technology provider called Orion Advisor Services and their trading platform. On a daily basis, the accounts, holdings, and transactions at our various custodians (TD Ameritrade, Schwab, and Fidelity) flow into this system. Our trading algorithm then runs diagnostics on each account. The algorithm ensures each holding is in tolerance as well as looking for other opportunities.
For example, let's say we want to hold 20% of an account in SPTM (SPDR Total Stock Market Fund). The algorithm checks each morning, and as long as SPTM is 16-24% of the account, there will be no trade recommended. Each holding is similarly analyzed for its own respective tolerances. If, however, SPTM is 25% of the account, the trading system will recommend that we sell 5% of SPTM to avoid any further over exposure. There is then another level of analysis to determine what that 5% should buy.
The above is, of course, a simplified explanation of everything that is happening, but nonetheless, it provides a great insight into some of the processes we do daily for our clients. Another interesting component of this system is our cash management trading tools. As you may well know, cash is king when it comes to financial planning, but as an investment, cash is trash. For this reason, as soon as deposits or contributions hit an account we manage, we put those funds to work by getting them invested. Our trading system also helps us by notifying us of each contribution and running the algorithm through the account to determine what we should buy.
My favorite feature of our trading system is the tax loss harvesting tool. This is for our clients that have non-qualified investment accounts (which are taxed differently than retirement accounts). When you invest in a non-qualified investment, you must pay tax on capital gains, dividends, and interest. A capital gain occurs when you sell an investment for a gain. For example, if you buy SPTM for $10,000 and sell it for $12,000, you have a $2,000 capital gain. The IRS, in all its generosity, allows investors to offset capital gains with capital losses. Meaning if you have a capital gain of $2,000 but a capital loss of $1,000 from a previous investment loss, you only have to pay tax on the net gain of $1,000.
Tax loss harvesting, which we implement, is the art and science of minimizing our clients' tax liability. We do this by selling investments when they have a taxable loss and buying another investment simultaneously. For example, if an account holds SPTM (SPDR Total Stock Market Fund) and it currently has a loss of $2,000, our trading program will recommend we sell SPTM and buy VTI (Vanguard Total Stock Market Fund). We have therefore harvested a loss of $2,000 (that can be used to offset future gains); meanwhile, our client is not missing time in the market as we repurchased a similar fund.
We run our tax loss harvesting tool weekly, and with the market being extremely volatile this year, we have been able to harvest millions and millions of losses. These capital losses will undoubtedly come in handy this tax year or another. Although I would rather markets be up all the time, that simply cannot happen. So while they are down, we take lemons and try to make some lemonade.
This system was painstakingly built and tested before we implemented it years ago. I am extremely proud of the system we have built and continue to refine. That is why I was so shocked at this recent conference to hear how other advisors trade. Foolishly, I assumed everyone had some sort of a systematic process like us, but I was quite wrong.
Most of the other advisors I spoke with had little to no system. Some just looked at each client account 1x a year to see if anything needed to be traded. This meant each account was only being touched once every 365 days! Others relied on downloading lists of accounts and manually allocating trades using Excel spreadsheets. These spreadsheets are then painstakingly uploaded to the custodians for trades. Knowing how these systems work, I can’t help but wonder: How long does cash sit uninvested? How are trade errors spotted and corrected? How often are holdings held out of tolerance?
Needless to say, I know we are not perfect and perhaps not the best at every financial planning discipline, but this is one area I believe we truly excel. A trading system operates quietly in the background, seems mundane, and is likely an afterthought for investors considering hiring a financial advisor. But it may actually be critical to the investment experience someone has and added incalculable incremental value over a decades long investment horizon. That is why we will continue to refine, research, and build out our trading efficiencies for our valued clients.
Written by Brice Carter
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