Fisher Investments Reviews Tax Loss Harvesting

Transcript

Ken Fisher:

Tax loss harvesting is a perfectly valid way to bring down your tax bill, but it also can be done in ways that are injurious to you. Let me take a second on that. There's the wash rules that prohibit you from just selling a stock that you've got a loss in, and then turning around and buying it back immediately. The loss rule creates a problem for you if you sell a stock that you've got the loss in, and then while you're waiting to be able to buy it back, it goes up. That's a bigger disadvantage to you than the tax impact.

What's commonly done and could be done pretty well, but it can't be done perfectly, is you sell a stock, you've got the loss in to try to offset a gain that you've got in something else, and then buy a stock that you believe acts just like the stock that you sold. That can work if they truly keep acting together the same way. This is an argument that I make often, which is that things that correlate highly together, tightly together, that have a high correlation to each other, meaning that they wiggle a lot alike. Statistically, a correlation of 1.0 means they wiggle identically. A correlation of -1.0 means the exact opposite movements occur between the two, and zero means there's no correlation between them at all. Very high correlation stocks tend to remain highly correlated most of the time, but not always. So if you buy an oil stock as an example, a big one, it goes down.

You want to take a tax loss on it to offset a gain you've got in something else, and you buy another oil stock that's similar to it in most characteristics and has a very high correlation to the one you sold. Probably that works just fine, but not always because things happen to single companies. And it may be that whatever happens to it is not as good as what happened to the company that you sold, in which case that trade is going to cost you dearly.

One of the most important things that I think people can do, and I've never understood why this is true, but I know it is. People who take tax losses tend not to think about it much until you get toward the end of the year, when a cacophony of voices say to you, including media and stockbrokers and all kinds of other people, accountants, they start saying, "We're coming to the end of the year. You've had these gains. You need to take your losses to try to offset them so you won't have too big a tax bill." I hear that, but it's the wrong way to think about it.

The right way to think about it. See what happens is, the problem with that theory, the problem with that approach is if you wait until November and December to take tax losses for that purpose to minimize your tax bill, you're doing it the same time everybody else is, and you're probably doing it in the same stocks or types of stocks that everybody else is all at the same time. And if you're selling the things that everybody else is selling when they're selling them, you're way more likely to get whipsawed from that. The best thing to do, the right way to do this is to think through where you are in gains and losses and in the middle of the year, start effectuating losses when other people aren't taking tax losses for that purpose. Starting maybe in the summer and no later than, let's say, September. But being over and done with it by the time you get to what some people call tax loss harvesting season, November and December, when everyone else are taking tax losses. This is a little bit like the notion that, you know, you buy your skis in the summer and you buy your straw hats in the winter, and you want to zig when they zag. And the best way to get a bargain on something is to buy it when other people aren't wanting to buy it seasonally. And that reality should be applied to tax losses. I encourage you to take that reality. Start thinking about it in the middle of the year. Execute it as you move into and through September and into October at the latest, and be done by then.

If you actually try to force yourself into tax losses in November and December, you got to be really careful that you're not selling against everybody else who's all selling the same stuff all at the same time, depressing the prices of the things that you are selling more than would be the case otherwise. And then when you get to the beginning of January, they springboard on you. The worst is to sell at Christmas time, just before Christmas, when this activity is at its heaviest.

Now, let me give you an example of that in a macro sense. In 2018, you had a huge variety of hedge funds that had big losses from the past and had decided—and I can't even remember the number of them it was so many—and had decided that they needed to liquidate and start their businesses over. And to liquidate in 2018, all of the hedge funds started selling at once, and the market between November and December 31st had dropped almost 20%. Maybe it was 20%. I don't actually remember exactly, and then bounced back the same amount in January and February. If you did tax loss harvesting into the middle of that, it was very painful for you. The reality is, the things they sold you were much more likely to see do better in 2019 than the things you bought, which hadn't gone down so much. It'd be hard to find something that was similar and had gone down just as much.

If you're doing tax loss selling late in the year, you have to be sure to buy things that have performed just as badly as the things you sell. I urge you to do tax loss harvesting if you're a taxable account. But I urge you to do it when everyone else isn't, and to not be effectively buying your skis in the winter and your straw hats in the summer.

Thank you for listening to me.

Voice of Ken Fisher:

Hi, this is Ken Fisher. Subscribe to the Fisher Investments YouTube channel if you like what you've seen. Click the bell to be notified as soon as we publish new videos.