Direct indexing struts its tax management magic

Direct indexing struts its tax management magic
The technology is gaining appeal as way for advisors to separate themselves from the financial planning pack.
JUN 02, 2023

The learning curve for direct indexing is still steep for a lot of financial advisors, according to the feedback at this week’s InvestmentNews RIA Lab, which took a deep dive into the technology-driven portfolio customization.

While much of the focus from platform providers remains on the benefits of tax management, the message was clear that partnering with direct indexing gives advisors an immediate tool for separating themselves from the financial planning pack.

“One of the values of it is taking the direct indexing and managing it as a component model of a larger portfolio,” said Barrett Ayers, president and chief executive of Adhesion Wealth. “It’s a way to differentiate from the advisor down the street who may be just using mutual funds and ETFs.”

Cindy Galiano, managing director in the U.S. wealth platform at Morningstar Wealth, said direct indexing fills a gap in many financial planning practices.

“Advisors have to become more tax savvy, and with direct indexing high after-tax returns can be achieved,” Galiano said.

Jamie Susanin, senior portfolio manager for custom indexing at Orion, also stressed the value of becoming more of a tax-management specialist.

“A lot of times, taxes are one of a few barriers to moving a client over from another advisor,” she said, adding that direct indexing can help clients navigate the tax implications of major capital gains events, such as selling a business.

Chuck Failla, founder of Sovereign Financial Group, who moderated the panel discussion, responded to audience inquiries about how direct indexing works by pointing out how it can “break an index down into components.

“Direct indexing deconstructs an index,” he explained. “If the S&P goes up 10%, it’s not like every stock is going up in lockstep. And even in an up market, you can tax-loss harvest.”

In terms of specific benefits, Ayers said his firm has been paying close attention to the tax-managed alpha generated through direct indexing and reports a “20-basis-point boost by entering direct indexing into the equation.”

While direct indexing is most useful for wealthier clients with taxable accounts, the panel explained that it is becoming a helpful tool for recruiting and managing new business.

Ayers cited two examples, including “an off-the-shelf [direct indexing] portfolio that can be dropped into a client’s account” and a legacy account with low-cost-basis positions.

Direct indexing could even help move forward an advisory firm acquisition, when tax management challenges can be multiplied by hundreds of individual accounts, he said. "“Direct indexing is a solution that overcomes the No. 1 objection from clients and advisors looking to go independent.”

Ultimately, Ayers added, direct indexing is just another vehicle for adding value while freeing up the advisor to focus on financial planning and client servicing.

“It’s all about differentiation, and as an advisor you need to decide if you’re an asset manager or a financial planner,” he said. “It’s very enticing to get in there and build the portfolios, but it’s also a lot of work.”

Advisor strategies for overcoming 'The Retirement Challenge'

Latest News

Bridgewater's flagship hedge fund surges amid volatile markets
Bridgewater's flagship hedge fund surges amid volatile markets

The firm's flagship fund, which invests in stocks, bonds, currencies, and commodities, saw accelerated gains as some peers lost ground.

ICI floats '40 Act revamp to support middle-class wealth creation
ICI floats '40 Act revamp to support middle-class wealth creation

Policy proposal offers recommendations on dual-share class funds, semi-transparent ETFs, and expanded flexibility for closed-end funds to include private market assets.

Trump-induced turbulence tests 60-40 strategy's limits
Trump-induced turbulence tests 60-40 strategy's limits

With bonds failing to provide a safety net for steeply falling stock prices, many investors are letting go of their "set it and forget it" approach.

More workers dipped into their retirement savings last year, Vanguard finds
More workers dipped into their retirement savings last year, Vanguard finds

Sneak peek into annual defined contribution plan report shows average participant balances reached an all-time high amid rising equity markets.

Decades-old will leaves fate of late actor Gene Hackman's $80M fortune uncertain
Decades-old will leaves fate of late actor Gene Hackman's $80M fortune uncertain

The iconic actor's death alongside his wife, Betsy Arakawa, leaves pressing questions about what happens next to his assets.

SPONSORED Beyond the all-in-one: Why specialization is key in wealth tech

In an industry of broad solutions, firms like intelliflo prove 'you just need tools that play well together'

SPONSORED Record growth: Interval funds emerge as key players in alternative investments

Blue Vault Alts Summit highlights the role of liquidity-focused funds in reshaping advisor strategies