Time for a Checkup

Adam M. Grossman

AS WE HEAD INTO year-end, many are cheering the financial markets’ returns. The S&P 500 has gained nearly 25% and now sits just a hair below its all-time high. Bonds are also looking more attractive, with yields at 15-year highs.

As a result, many investors are feeling a whole lot better about their portfolio balances. That’s certainly one way to measure financial progress, and it’s an important one. But as you make plans for 2024, there are other financial metrics that also deserve your attention.

Simplicity. A few years back, MIT professor Andrew Lo co-authored a book titled In Pursuit of the Perfect Portfolio. The punchline of the book: There’s no such thing as the perfect portfolio. Instead, the message is that there are many ways to structure a successful investment plan.

What would an ideal portfolio look like to me? It would be so simple it would fit on an index card. It would have just a limited number of holdings—mostly index funds. And it would be so straightforward that you wouldn’t need a spreadsheet or sophisticated analysis to understand it. You could calculate the asset allocation in your head. A simple set of investments makes a portfolio easier to monitor and to manage. And often, it carries two valuable “efficiency” benefits, described below.

Tax efficiency. Last year, I described an investor I called Jane who had a curious experience with a mutual fund. Back in the 1990s, Jane had purchased shares in the fund for $19,000 and, a few years ago, sold her holdings for nearly $300,000. It looked like a significant gain, and she expected a large tax bill. But it turned out Jane was able to report a loss on her tax return. Why? The fund had been issuing sizable taxable distributions nearly every year. As those distributions were reinvested at higher and higher prices, they increased Jane’s cost basis. That allowed her to claim a loss when she sold.

What was wrong with this picture—and a key reason I recommend steering clear of actively managed funds—is that Jane had no control over the income that this fund was generating throughout her working years, when she was in a high tax bracket. By contrast, index funds and exchange-traded funds issue far fewer—if any—taxable distributions.

Early next year, when you review your 1099 tax forms, look for funds like the one Jane owned. If you see any, I suggest looking for ways to reduce those holdings. If there isn’t much of a gain, you could simply sell them. Alternatively, if there’s a significant gain, consider donating them to a donor-advised fund.

Cost efficiency. Another key benefit of simple funds: They tend to have modest expenses. According to the research, controlling investment expenses is a key lever in controlling your returns.

Here’s how the research firm Morningstar once described the importance of fund fees: “If there’s anything in the whole world of mutual funds that you can take to the bank, it’s that expense ratios help you make a better decision. In every single time period and data point tested, low-cost funds beat high-cost funds.” Fortunately, there tends to be a lot of overlap between funds that carry high fees and funds that are tax-inefficient, making it easier to identify candidates for removal from your portfolio.

Saving. If you’re in your working years, savings are another key metric. You could look at your overall savings rate, and that’s certainly important. But also check whether you’re saving in the right types of accounts. Just as you want to adjust your asset allocation as your financial situation changes, you want to be sure the savings vehicles you’re using still align with your current tax status.

What types of accounts should you consider? In addition to the most commonly used accounts, such as 529 plans, 401(k)s, 403(b)s and Roth IRAs, investigate some of the lesser-known options. If you have a very high income, see if your employer offers a deferred compensation plan. If you’re self-employed, a solo 401(k) can be a good choice. And if you’re self-employed, have a very high income and are further along in your career, you might look at a cash balance plan.

Sustainability. If you’re in retirement, probably the most important metric is the sustainability of your retirement-income plan. After a strong year in the markets, this is likely less of a concern than it was a year ago, but it’s worth confirming. There’s a number of approaches, including the “4% rule,” the “guardrails” method and Monte Carlo analysis. Each has some value, so I suggest looking at your plan through more than one lens. What’s most important is simply to check on your plan regularly.

Cash flow. Whether you’re in your working years or in retirement, a key objective should be to simplify your cash flow so you can spend less time tending to mundane financial tasks—or, worse yet, worrying about them. As we enter the new year, look for ways to streamline.

Try, for example, to cut down on the number of credit cards you use. Or, if you want to use multiple cards, ask the credit card companies to set all the payment due dates to the same day of the month, making it easier to stay on top of payments. The metric in question here isn’t your cash flow per se. Rather, it’s the simplicity of managing that cash flow.

Disaster-proofing (Part I). Author William Bernstein uses the term “deep risk” to talk about the most extreme investment risks. These include hyperinflation, deflation, government confiscation and devastation (such as war). Bernstein acknowledges that there’s no silver bullet for guarding against these kinds of risks.

Fortunately, there’s another type of risk—what Bernstein calls “shallow risk”—that’s much easier to manage. Shallow risk refers to the ordinary ups and downs of the market, and effective asset allocation can go a long way toward inoculating your portfolio from this risk. As we head into the new year, it’s important to confirm that your chosen asset allocation still aligns with your needs.

Disaster-proofing (Part II). Earlier this year, I told the story of two friends who had both had their bank accounts compromised. While hacking is an unfortunate reality, there are steps you can take to secure your accounts. In September, I offered a number of suggestions. Most important: Try to secure as many of your accounts as you can with two-factor authentication, especially the type that doesn’t rely on text messages, which can be an Achilles’ heel.

Adam M. Grossman is the founder of Mayport, a fixed-fee wealth management firm. Sign up for Adam’s Daily Ideas email, follow him on X (Twitter) @AdamMGrossman and check out his earlier articles.

Do you enjoy HumbleDollar? Please support our work with a donation. Want to receive daily email alerts about new articles? Click here. How about getting our twice-weekly newsletter? Sign up now.

Notify of
Oldest Most Voted
Inline Feedbacks
View all comments

Free Newsletter