Once, direct indexing was something reserved for ultra-high-net-worth investors. It was prohibitively expensive to buy the stocks needed to approximate an index’s performance. But thanks to software innovations, commission-free trades, and the ability to buy fractional shares, more investors can use direct indexing’s tax-loss harvesting capabilities.
Tax-loss harvesting involves selling investments at a loss to use the losses to offset gains in other investments. The investor uses the money from the sale to buy an investment that fills a similar role in the portfolio. It’s a process that can potentially help investors earn better returns and lower their tax bill.
See more: “Turn To Direct Indexing for Customized Portfolios”
A direct indexing account sells securities which drop below their cost basis. It then uses the proceeds to immediately buy correlated (but not substantially identical) replacement stocks.
A service like Vanguard Personalized Indexing can automatically scan portfolios throughout the year for tax-loss harvesting and rebalancing opportunities. VPI can scan the portfolios quarterly, monthly, or even daily.
And the more frequent the scans, the higher and more consistent the alpha can be. Per Vanguard, the differences in tax-loss harvesting opportunities alpha can range from 20 basis points to more than 100. Vanguard added that strategies with daily scans “is critical to achieving the maximum harvest in ‘typical’ (non-high) volatility environments.”
At Exchange 2023, Vanguard CEO Tim Buckley said that the firm will “be investing heavily” in direct indexing. More information about VPI can be found online.
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