America's Best Direct Indexing Buyers Guide 2024 - 11

2024 DIRECT INDEXING BUYERS GUIDE
mitigates this risk by resetting the
portfolio to a more organically
sustainable or " balanced " posture.
However, the process of rebalancing
may be complicated by external
constraints like an emotional
attachment or unrealized capital
gains. Whether the stock was gifted
by a loved one, held for many years
or tied to employment, selling off a
portion of the position requires careful
consideration even if a stepped-up
basis reset the initial taxable value of
the assets.
In these scenarios, managing the
transition from concentrated to
balanced portfolio is essential.
Divesting a large holding often triggers
capital gains, but with direct indexing,
investors can offset these gains by
harvesting losses from other securities
in the portfolio.
This strategic approach helps to
manage the tax consequences of
selling a concentrated stock position.
Direct indexing also provides a
customizable approach to gradually
reduce exposure to specific stocks or
sectors.
Working with a financial advisor,
investors can develop a plan to mitigate
risks, improve financial security and take
advantage of tax-efficient strategies
tailored to their individual needs.
For many investors, emotional
attachment to a stock or concerns
over taxes can make it difficult to
diversify a concentrated position all
at once. Setting a " glide path " over
months or years helps to reduce the
emotional impact by easing the client
into the new investment framework
by degrees, effectively creating an
opportunity to mourn the old portfolio
and adjust to the new one.
3. Make Bonds Meaningful Again
No bond portfolio constructed out of
pooled products and held in an ETF
wrap account will ever provide the
true diversification benefits of owning
individual bonds to maturity. When
fixed income exposure is presented to
your clients as a route to eliminating
(and not simply reducing) potential
capital losses, this is a problem.
No ETF will return principal when the
" term " ends because there is no fixed
date at which the fund unwinds and
distributes its assets to shareholders.
This is crucial for everyone who
witnessed the failure of 60-40 equity/
bond portfolios to live up to their
promises.
This was not a smooth glide. Bond
funds simply behaved too much
like stock funds and lost money,
defying expectations and damaging
generations of investor education in the
process.
But just as direct index investors own
their own stocks, they can also recover
the advantages of bonds by owning
their own fixed-income instruments
within a direct index structure. As
a bonus, they can tailor their bond
holdings to align with various themes
such as environmental, social, and
governance principles, effectively
creating values-driven bond portfolios.
We're already seeing an increasing
number of bond or fixed income
direct indexing solutions. Undoubtedly
additional asset classes will follow.
The logic looks a lot like direct stock
indexing. As bonds reach maturity,
the generated funds are reinvested
into bonds with later maturity dates
offering higher yields while locking
in elevated rates for the long term .
. . while keeping the overall portfolio
aligned with each individual investor's
tax situation.
4. Client-Driven Ethical Screens:
The Values Conversation
Incorporating client values into
portfolios is often seen as a challenge
many advisors prefer to avoid. It
can introduce complex issues,
from ensuring compliance with a
client's specific ethical preferences
to maintaining market performance
while excluding certain themes and
emphasizing others. Pre-packaged
ESG, " socially responsible, " or
" sustainable investing " options often
add to the confusion.
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However, more investors now want
their portfolios to reflect their personal
values. In response, investment
platforms are rolling out valuesbased
investing benchmarks to add
objectivity in this largely subjective
area. ESG-minded investors frequently
initiate these conversations because
advisors may be unsure how to start.
Therefore, educating advisors on
ESG and values-based investing is
becoming a key factor in building and
adopting ESG-driven portfolios.
If advisors don't engage with clients
on these topics, clients may look
elsewhere or manage their investments
independently. This trend is particularly
strong among younger investors,
who may inherit wealth but bring
different preferences and expectations
compared to previous generations.
As younger clients take control of
their financial futures, the industry is
undergoing a transformation in how
products, services, and engagement
methods are offered. Advisors need
to adapt to these shifts if they want to
stay relevant.
Direct indexing is well-positioned
to help advisors add value to
these relationships, no matter the
investment results. By selecting
the right index or using advanced
platforms, advisors can create highly
personalized portfolios that align with
clients' specific preferences. These
preferences can change over time.
For example, if a client wants to take
advantage of the short-term success
of fossil fuel companies but plans
to shift toward sustainable energy
investments later, the portfolio can be
adjusted accordingly. Or, if a client
prefers to exclude specific countries in
an international index or needs to avoid
a company they hold stock options in,
direct indexing makes it possible.
Index-based separately managed
accounts (SMAs) allow for these
personalized conversations with
clients. The investments are aligned
with the client's ethics, not dictated by
an external governance framework.
This creates a collaborative approach,
America's Best Direct Indexing Buyers Guide 2024

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