The Biggest Investment Mistakes Aren’t What You Think

In today’s episode, you’ll learn more about:

• Why diversification still matters despite years of U.S. market dominance
• Emerging markets outperformance and the importance of global exposure
• How ETFs and asset location can improve after-tax returns
• Asset location strategies across taxable and retirement accounts
• Public REIT dislocations and investment vehicle structure considerations
• Managing concentrated stock positions more tax efficiently
• Donor-advised funds, QCDs, and gifting appreciated securities
• Tax-aware long/short strategies and multi-year planning
• The “architecture before allocation” philosophy at True Wealth Design

Listen Now:

The Smart Take:

Go Inside the Episode: 

0:00 – Intro

1:26 – Diversification Still Matters

7:07 – Structure Matters

11:24 – Using Assets Intentionally

16:36 – Why Planning Matters

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The Hosts:

Kevin Kroskey, CFP®, MBA – About – Contact

Tyler Emrick, CFA®, CFP® – About – Contact

Episode Transcript:

Tyler Emrick:

Some of the biggest investment mistakes usually have nothing to do with picking the wrong investment. They come from poor diversification, bad tax decisions, and poorly structured portfolios over time. So that’s what we’re diving into today. We’re talking about the often overlooked side of investing, how portfolios are actually built and managed.

Walter Storholt:

We’re back again for Retire Smarter, Walter Storholt alongside Tyler Emrick, certified financial planner, chartered financial analyst, and one of the wealth advisors at True Wealth Design. Great episode today as we dive into big investment mistakes, but it sounds like these are the things that kind of fly under the radar a little bit, Tyler.

Tyler Emrick:

Yeah, no, absolutely. I mean, I think when we start thinking about our portfolios and our accounts, well, it’s so easy to get caught up on the, “Ooh, did I pick the right stock? Do I got the right mutual fund?” And some of these other things that are oftentimes just as important can kind of be shifted off to the wayside a little bit, so we wanted to give them a little bit of love today and really just start to focus on, well, what else should you be thinking about other than just, “Hey, did I get that right perfect investment and how is it doing?”

Walter Storholt:

Yeah, makes a lot of sense. And you make a good point because I’m just kind of thinking about like, “Okay, let me look at some similar mutual funds. Which one’s the right one to pick?” Well, if you look at their performance over a long period of time, we’re talking what, a percent, a half a percent difference, again, between two like choices for you out there. So that’s not the decision necessarily to have so much consternation over, it’s these other things.

Tyler Emrick:

Oh, well, absolutely. Well, think about it this way. You can get so caught up into that mutual fund decision and comparing it against its peers. Well, hey, should you even be in a mutual fund that invests that way? This whole idea of, hey, diversification, in our opinion, it really does still matter. I mean, when you think about constructing a portfolio, I think oftentimes it’s so easy to look at recent performance and even a little further than recent.

I mean, you go back to the US stock market versus international and emerging market, in the last 10, 15 years, I mean, the US market has done very, very well for a number of reasons, Walt. But you just go back a decade prior to the early 2000s and I think we’re referring it to it as the lost decade as I’m sure we’ve touched on at some point in our conversations and where the US market really had almost zero performance and international and emerging markets have shined during that time period.

So these long periods of times of persistence outperformance in different asset classes or different investment vehicles or countries can be prolonged for a long period of time. So while it’s easy to get caught up into that little recency bias as a, “Ooh, I found myself and most of my portfolios all in US large cap companies.” And it’s even more pronounced here, recently as you kind of think about just last year and the start of this year. The US markets have trailed, emerging markets quite substantially depending on the benchmark that you look at, also have trailed some of the international indexes as well. That’s the first time that we’ve been able to say that in quite some time.

So you could imagine when you look at your portfolio over the last handful of years, you might have been looking at the emerging market and international exposure going, “Ooh, why do I have this? Why is it here? It’s really just continually underperforming my US exposure.” And then all of a sudden it almost flips on a dime and that is not the favorable position and hasn’t been the favorable position in the last say 18 months. So it can be oftentimes very hard to hold some of those underperformers relative to other asset classes.

We don’t see it just in stocks too, right? I mean, this can kind of rear its head in the bond market as well. I think we talked a little bit about it on the last podcast that we did, but we talked about this whole idea on how easy it is to get almost a barbelled portfolio where you’re all in US large cap stock and then you’re all in cash. And we kind of miss this whole multitude of other investment vehicles that are available to you that add diversification, have different return patterns, have different expected returns that really add a lot to the value of your portfolio over a long period of time. But sometimes they’re hard to hold, Walt. Especially when you’re doing that analysis and you’re looking and saying, “Why is this one always down and everything else is up?” But oftentimes if you’re not looking at your portfolio and there isn’t one of those outliers, that’s almost that red flag to say, “Hey, am I appropriately diversified?”

Walter Storholt:

That’s a good point. It almost feels like diversification you feel almost foolish for doing it when everything’s going well.

Tyler Emrick:

Sure.

Walter Storholt:

It’s one of those kinds of things where you’re only kind of thankful to have it when things aren’t going super smoothly, right?

Tyler Emrick:

Well, or aren’t going super smoothly in your preferred asset class. So I always think of it as the goal is not necessarily to maximize returns in one market environment. The goal is to build a resilient portfolio that’s going to perform well over a multitude of different outcomes and different market cycles, so that way you’re smoothing out your ride and adding to that expected return. So that diversification I think is just like a core starting point as you’re starting to think about that portfolio and all the good stuff about rebalancing, having a global market portfolio, avoiding performance chasing and all that good stuff, I think are just good things to have ingrained as you’re kind of thinking about building and managing a portfolio that you built.

Walter Storholt:

Just a quick question, Tyler, to give framework for the rest of the episode and also just to kind of digest what you’ve said so far, who is the audience for this mentality or this mindset? Is this for folks who I know often we’re talking about folks in retirement or close to retirement, should we tell folks who are in their 20s, 30s or 40s that might be coming across this that the advice might be different or is this kind of the same sound mentality that you see throughout age spans?

Tyler Emrick:

No, I think it’s sound across all different age groups or in different parts of life. Now, I think the implementation might be a little bit different. And when I think about implementation, I think about sizing. So the easiest example of that would be, well, how much stocks and bonds do I want to have? Younger listeners might be more geared towards, “Hey, I might have an all stock portfolio. I got plenty of time. This is long-term money that I’m investing for retirement way down the road. I can handle some of the ups and downs.” Whereas on the flip side of that, someone that’s right on the doorstep of retirement, maybe they have an all stock portfolio, but maybe they want to have a little bit in bonds to create themselves a runway because they need to start living off that money a little bit too. So that practical application can be different depending on what stage of life that you’re in. But I think the core concept of being diversified is extremely important no matter where you’re at in your life.

The other big thing would be I think about the structure, specifically the vehicles that you’re using. I think a lot of times this can kind of, again, be pushed by the wayside. So what do I mean by the vehicle that you’re using? This would be deciding on, well, how do you want to invest your money? Do you want to use say an individual stock and just invest in stocks? Do you want to use a mutual fund? Mutual funds are extremely popular. A lot of times inside of our retirement accounts when we might get our first exposure to investing, a lot of our employer retirement plans use mutual funds to invest your money. Mutual funds are very basic, right? Hey, you just put your money in it and the mutual fund can invest it based off of whatever objective that it is. So it’s an easy way to get diversification, get management, all that good stuff.

Do we use an Exchange Traded Fund, ETFs? Last 15, 20 years, ETFs have become extremely popular. So that investment vehicle is very important as you think about, well, what account are you investing in and which vehicle is very appropriate for that?

So what do I mean by that? What I mean by that is if you think about the retirement accounts, retirement accounts, you can buy and sell your investments and there’s no tax hit for you. Well, the IRS is going to get you when you pull it out, but there’s retirement accounts, unless you got it in a Roth, but the buying and selling really doesn’t necessarily matter.

So mutual funds tend to be a little less tax efficient. So they have capital gains distributions at the end of the year, typically. They might pay dividends, interest, that type of thing. So if you think about investing money in your taxable brokerage accounts, a mutual fund might not be the best vehicle to use. Maybe we would want to gear more towards exchange trade funds or those ETFs.

The reason is because ETFs have a little bit more flexibility on how they pay out capital gains distributions, which in turn has some added tax benefits. So holding a mutual fund in a retirement account might be okay. Holding a mutual fund in your taxable brokerage account where taxes actually matter on a year in and year out basis, maybe not such a good idea, you want to lend yourself more to those ETF structures.

Another place that we see this, well, quite a bit is in the form of cash and money market accounts. Money market positions pay interest and they’ve been paying a pretty decent amount of interest here for the last handful of years. I mean, a few years ago, they were getting up into like the 5% range. They’ve kind of slowed down a little bit and maybe in the mid-3 range, but if you keep a lot in cash in your taxable brokerage accounts and they’re in these mutual funds or money markets, that interest Walt is hitting your tax return each year. Well, if you got a sizeable amount in there, that could really affect how much you might owe in taxes on a year in and year out basis. So the question becomes is, do we want to hold those types of vehicles in our taxable brokerage accounts? Do we want more of our bond and money market positions in our retirement accounts where they can pay interest and we don’t have to worry about the tax hit on a year in year out basis?

So we call that asset location. We talk about that quite a bit, Walt, and I think it comes up quite a bit. But as we think about the vehicle, which one’s going to be appropriate? Then we want to kind of zero in and say, “Well, hey, which vehicle do we want to use depending on the account that we’re trying to invest in?” And there’s a multitude of accounts out there, right, Walt?

Walter Storholt:

Yeah.

Tyler Emrick:

Well, we got the retirement accounts, pre-tax, we got our Roths, we got our taxable brokerage accounts, this can rear its head in a multitude of ways, but you start thinking about that efficiency, it really starts to add up over time.

Speaker 3:

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Walter Storholt:

All of this really seems to point toward just being intentional with all of your decisions that you’re making with your funds and your money from the asset allocation to other things as well.

Tyler Emrick:

Oh no, absolutely. And what we talked about when we said the vehicle and that asset location, for individuals that have started to maybe accumulate a good amount of wealth, now they might start looking at even other vehicles, things like interval funds or private investments that find their way in their portfolio for a number of reasons. A lot of times when we think about, well, when we construct a portfolio, what is that right mix? What’s the right mix of stocks? What’s the right mix of bonds? Sometimes there’s other asset classes that maybe aren’t as liquid that we want to invest in for whatever reason. This would be things, probably the easiest example of that, Walt, would be real estate. Real estate for most cases is going to be pretty illiquid. It takes a lot to sell a house or rental property or commercial real estate.

So a lot of times when you think about investing in those types of investments, if you want that exposure and let’s say you get that in an ETF structure, well, an ETF has daily liquidity. Hey, you can get money out of there essentially any day that you want. That doesn’t always line up with investing in real estate, right? That’s why when we go back to COVID, March of 2020, we’ve seen a lot of dislocation in REITs, which would be real estate investments that are in mutual funds or ETFs because individuals were saying, “Hey, market concern, I want my money out.” And since they got to do those redemptions on a day in and day out basis, that doesn’t match up with getting rid of real estate that quickly.

So sometimes you can even think about it saying, “Well, hey, I want to invest in a particular asset class, does that asset class lend itself well to an ETF or a mutual fund?” And sometimes it doesn’t, Walt, so we want to make sure that’s kind of matched up, for sure.

Walter Storholt:

Matching up, making sure things are appropriate, intentional. These are all really important. They may sound like buzzwords, but they’re all really important ones.

Tyler Emrick:

Oh, sure. Absolutely. Well, and I think that intentionality is another place that you can pick up some of these points and be efficient. If you’ve accumulated wealth, one of the big things that we help families with is, well, how do you use that wealth efficiently? You’ve built this portfolio, you have investments, how can you best use them? So identifying those use cases and knowing when to use them, I think is a tremendous advantage. So when I say use cases, what am I thinking of? Well, I’m thinking of, well, hey, if you’ve accumulated money outside of your retirement account and a taxable brokerage account, the last few years the market’s done exceptionally well. Let’s say some of those investments have rapidly appreciated in value and over here in your financial plan, you have some gifting that you want to do, whether that’s gifting to kids, whether that’s gifting to church or charity, whatever the case is.

Well, hey, you have these very highly appreciated positions where if you sell out of them, well, good old Uncle Sam’s going to get a piece of that. A lot of times you can gift those highly appreciated positions to your church or charity or even gift them to your kids. Your kid sells them and if your kid’s in a different tax bracket, maybe they could pick up some tax advantages that you wouldn’t get by selling those investments. So that’s like, “Hey, how are we using that wealth? How are we using those investments to accomplish some of the wealth goals that we have?” Another big one here on the gifting side would be for our retirees doing those qualified charitable distributions, where you can pull money out of your pre-tax retirement accounts, gift it directly to a church or charity and it doesn’t hit your tax return.

Hey, not paying taxes on that money and doing those distributions for things you were already doing before, that starts to add up over time and is a really good tax strategy and you’re really using that wealth that you’ve accumulated. I see this a lot too with individuals that have accumulated a multitude of wealth outside of retirement accounts. Those assets grow and they almost feel somewhat trapped, Walt. Like, “I can’t sell it because the IRS is going to get a big chunk of this if I sell it. I want to, I want to diversify, or I want to use those assets for something else,” but they feel almost trapped. This is where some of those tax-aware long-short investing strategies that are index strategies where we can do overlays and harvest losses to then use those losses to diversify out of concentrated stock positions or any position really that’s accumulated a lot of gains.

So this is where that intentionality kind of sees itself and that whole management of your portfolio, not much like a, “Hey, what’s the best position? Did I get the right stock? Did I get the right ETF or mutual fund?” But more so, “Hey, am I being intentional about how I’m using those assets to accomplish the other things that I’m trying to accomplish from the other things that I’m trying to accomplish from a wealth standpoint,” a little bit of word salad there, but I think we got the point.

Walter Storholt:

Yeah. And it just shows the layering, right? This needs to make sense so that level two makes sense, so that level three makes sense. All of these things just continue to tie together.

Tyler Emrick:

Correct. Well, and that’s why we’re always harping on and preaching on the plan, right, you’re looking at everything in aggregate, whether it’s diversification, picking the right investment vehicle or being intentional about how you’re using your assets from a gifting standpoint or with tax-aware long-short investing standpoint, all these things, you start doing each of them efficiently and effectively, you’re starting to save money in taxes, you’re being diversified, you’re getting higher expected return. All these things kind of culminate and add up into proper management of the wealth you’ve accumulated.

Walter Storholt:

Well, great points across the board, Tyler. It’s a great chance for us to remind folks that, hey, a lot of great information today and that’s great to take it and try and do things on your own, but if you need implementation help, that’s where Tyler and the team at True Wealth Design really shine and can really help. And that’s taking the ideas, the concepts, the coordination of all of these things and really executing it properly inside of a plan. If you’d like to explore what that looks like, all you have to do is click the link in the description of today’s show. You’ll be able to schedule a 20-minute discovery call with the team, talk about if you’re a great fit to work with one another, where some of the gaps in your current planning might be and take the next steps from there.

But definitely click that link in the description or go to truewealthdesign.com and look for the let’s talk button and you can interact that way as well. Lots of great resources on the website, so don’t hesitate to check those things out. And I know that’s a great first step for a lot of people to take when they’re ready to get really serious about truly putting together a financial plan or kind of wanting that second opinion of how they’re currently doing things and is there a better way? And I know that gets you excited to dive into those things, Tyler, to start problem solving, exploring, and figuring it all out.

Tyler Emrick:

Oh, you got it. That’s the fun part.

Walter Storholt:

Absolutely. Well, thanks for joining us everybody. Don’t forget to hit like and subscribe if you’re watching on YouTube so it helps the video reach other folks and help them out as well. And we hope you’ll join us again for the next episode of Retire Smarter. Until then, take care.

Speaker 4:

Information provided is for informational purposes only and does not constitute investment, tax or legal advice. Information is obtained from sources that are deemed to be reliable, but their accurateness and completeness cannot be guaranteed. All performance reference is historical and not an indication of future results. Benchmark indices are hypothetical and do not include any investment fees.