The Missing Element in the Asset Allocation Story: Location, Location, Location

Traditional asset allocation can be more effective if certain components are located in different vehicles. For instance, it might make sense to put taxable bonds in a tax-deferred account, or to locate equities in taxable accounts because the capital gains treatment is better. So instead of trying to diversify every investment account, a better option could be to overweight based on the tax implications of each vehicle.

Location, Part 3: Where Is an Asset Managed?

The third investment location consideration is where it’s being managed. Is it held by a brokerage firm, a bank, mutual fund, turnkey asset management platform, direct investment or completely unmanaged?

This is illuminating because it reveals whether concentrated bets are being made on a specific management style. For example, if several instruments are with a single investment advisor, it stands to reason that the investor feels very confident in that manager’s insight. But is the concentration intentional or simply random? Is the overall household portfolio allocation taking into consideration what the right and left hand are both doing? When two or more investment managers are working for a client independently, their allocation decisions may be working against each other unintentionally.

Your clients may have been haphazard about this aspect, as well as the other two locational considerations, because they just don’t know any better. Unfortunately, such lack of awareness often represents a significant missed opportunity, because of the value inherent in matching financial resource locations to the unique circumstances of any given household.

Circumstances Influencing Selections

For instance, if a medical practitioner is concerned about liability related to potential malpractice litigation, they might choose to own assets inside of retirement plans or insurance policies because these vehicles can provide an extra layer of protection against predators. Alternatively, they could decide to transfer ownership of assets to a spouse who doesn’t share the same liability. What’s the value of this decision? Well in a litigation it could mean the difference between a zero or 100% loss, regardless of the asset allocation.

Furthermore, a household in a high tax bracket might focus on investments that provide not only tax deferral, but also tax management as part of the overall strategy. Someone who wants to ensure that their money goes to the next generation without taxes, anxiety or family disputes might select a structure like a trust, or take advantage of the ability to skip a generation when designating beneficiaries within their IRAs and 401(k) plans. These are asset location decisions based on the distinctive features offered by different investment tools.

Are you taking the location of your clients’ assets into account? The considerations and possible incentives go far beyond simply diversifying via stocks, bonds, cash or alternative investments. Although everyone might talk about allocation, location is the missing element that deserves just as much attention. What are you doing to educate and inspect whether location needs to be added to your traditional asset allocation discussion?

H. Adam Holt, CFP, ChFC, is the CEO and founder of Asset-Map, headquartered in Philadelphia.