Tax loss harvesting, quantified
Tax loss harvesting (TLH) is a controversial investment strategy that allows investors to take tax losses on losing positions without meaningfully changing the total exposure of their portfolio. Now, for the first time, it's possible to see just how profitable it can be.
Why it matters: In volatile markets, most portfolios include some securities that are worth less than they were bought for. TLH involves selling those stocks — creating a loss that can be deducted from annual taxes — while simultaneously buying very similar stocks.
By the numbers: To mark 10 years of TLH, roboadvisor Wealthfront shared with Axios just how big those losses have been, month-by-month, over the past decade.
- In aggregate, Wealthfront has harvested some $3.2 billion in losses. Almost half of that — $1.5 billion — took place in 2022, as stock and bond markets alike swooned in the face of aggressive Fed rate hikes.
- It also helped that Wealthfront began 2022 with $19.6 billion in assets under management. That was up markedly from the $11.2 billion with which it began 2020, when the last big market downswing — the pandemic crash — took place.
Between the lines: New inflows are key to keeping the TLH machine humming. If stocks broadly go up over time, then a portfolio that has been held for many years is unlikely to see many losses, even during bear markets.
- For any given investor, "it is absolutely the case that you will have less of this over time," Princeton economist and Wealthfront CIO Burton Malkiel tells Axios.
- That said, investors often contribute new money to their funds — and even if they don't, reinvested dividends can generate tax losses. "Five years ago I got more losses than I’m getting now," he says. "But I am actually quite pleased and amazed that I’m still getting a meaningful amount of losses."
The bottom line: Wealthfront has generated about $3,735 of TLH per month, on average, for every $1 million it manages. That's $44,826 per year, or about 4.5%.
- That gives a good ballpark figure for how much benefit investors have been receiving when they adopt this strategy — although they all surely hope that they won't have many more years with 2022-style losses on their fixed-income portfolios.