Direct indexing and its benefits
Direct indexing is an investment strategy where individual stocks that make up an index, like the S&P 500, are held directly in your account, instead of using a mutual fund or an ETF like the SPY. Similar to an index fund, the goal is to track the performance of a target benchmark index. However, holding the underlying equities in an index directly confers benefits not available through mutual funds or ETFs.
Enhanced Tax Management
Tax Efficiency
First, if any one stock or sector, loses value, any capital loss is immediately available, and can be used to lower your tax bill as opposed to a fund, where net capital losses from managing the portfolio are trapped within the fund and not distributed to investors. Second, pushing capital gains into a future tax year may help improve after-tax returns.
Tax Alpha
Tax loss harvesting on a direct indexing portfolio can potentially equate to an additional 1-3% in annualized after-tax returns. This is because even during times of strong market performance, many stocks are down at some point over the year, increasing the opportunity for tax loss harvesting.1
Concentrated Positions
Direct indexing can help you diversify legacy positions with embedded gains. By building an index around your existing holdings and to add diversification without increasing exposure to existing large positions.
You can also use a tax budget to reduce concentrated positions with full control over your tax bill. Finally, harvested tax losses can accelerate the liquidation of concentrated positions while staying within your optimal tax budget.
Personalization
Reflect your values. With direct indexing, you can personalize your portfolio.
Include/Exclude Securities
Add or remove individual stocks from your direct indexed portfolio.
Values-Based Screens
Exclude stocks from your direct indexed portfolio based on ESG issues, like tobacco, fossil fuels, and private prisons. etc. Right Decision can build a direct index that aligns with your religious and social values.
Vote on Proxies
You can participate in proxy voting for companies held in a direct indexed portfolio.
Reducing Fees
You avoid paying ongoing management fees to the asset management company who runs the ETFs or the mutual fund company.