How to buy low and sell high like a pro

by Rob on December 24, 2012

Since the prices of financial assets like stocks and bonds adjust rapidly to new information and changes to perceptions of risk, it is very difficult to judge when a particular kind of investment will skyrocket, move sideways, or tank.

Instead of buying low and selling high, one can easily do the reverse; that is “sell high and buy low.” Selling high and buying low is relatively easy because it is a simple matter to observe when an asset class (such as U.S. large company stocks or Emerging Market small company stocks – implemented by most individual investors with mutual funds or ETFs that are designed to provide exposure to those asset classes) has strongly appreciated or depreciated in relation to other asset classes in your portfolio. Once a change has occurred, you can easily sell funds providing exposure to the good performing asset class and buy funds implanting the poor performing one in order to bring them back into “balance”. This technique is called “rebalancing” and is one that you can periodically apply to the investments in your portfolio in order to keep it at your appropriate asset class mix.  In addition to this crucial benefit, rebalancing provides a structured approach to always “buying low” and “selling high.”

Although rebalancing is mechanically easy, it is not always emotionally easy because it requires you to sell a relatively “good performing” asset and purchasing a relatively “bad performing” asset (hence buying low and selling high).  Normal human instinct will lead you to continue buying assets that are doing well.  It is easy to imagine that the good (or bad) performance will continue. Unfortunately, this is not how things work.  So, imagine eating your vegetables by adopting a disciplined rebalancing process – which will definitely be good for your long-term financial health.

Finally, once way to mitigate the discomfort is to only do this once a year – say in December or January.  This is frequent enough to reap most of the benefit – but infrequent enough that you can summon the courage when necessary!

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When making a charitable contribution, most people (including me for many years) reach immediately for their checkbook to write a check.  It is understandable why this happens – giving cash is both simple and easy – and may still be the best option for small gifts.  Another choice however has become very popular in recent years and can make a lot of sense: the donor advised fund.

A donor advised fund is an account, maintained and operated by a 501(c)(3) organization, called the sponsoring organization.  You can open such an account and give it any name you want, such as the “John and Jane Doe Foundation” (even calling it a foundation – allowing you to ostensibly keep up the Jones’).  Then as the donor to the fund, you make contributions into your account.  There is often a minimum contribution amount, such as $10K – along with a minimum balance requirement – but because there is no separate auditing of these funds, they don’t have a separate tax ID or requirement to file a Form 990 (as exists with a private foundation).

Because your contributions to these vehicles are irrevocable, the supporting organization has legal control of the fund.  However, with a donor advised fund, you as the donor retain advisory privileges with respect to both the distribution of your charitable contributions and the investment of the assets held in the fund.

The supporting organization typically invests the donor advised funds in a pool of mutual funds, and allows the direction of investment asset allocations.  The supporting organization also typically charges an asset-based fee to cover the administration of the donor advised fund.

As the fund’s advisor, you may direct the supporting organization to make specific donations to 501(c)(3) charities that you favor.  There is often a minimum donation amount from your fund, but it is reasonable, and can be as low as $250/grant.  Finally, you may also set up successor advisors that can make those recommendations when you can’t.  This can be a fantastic tool in teaching your children the value of making gifts.

From a tax vantage point, you get the same benefits with a donor advised fund as with writing a check.  Because your contribution to your donor advised fund is an irrevocable gift to a 501(c)(3) supporting organization, you get full access to the standard IRS charitable deduction.  The actual amount that you can claim for a charitable deduction is limited by the contributed asset type and your adjusted gross income.  For contributions of cash, you may deduct up to 50% of your adjusted gross income.  For contributions of long-term capital gain property (i.e. appreciated securities fall into this category), you may deduct up to 30% of your adjusted gross income.  Regardless, the charitable deduction is earned in the year you make a contribution to your donor advised fund – not when you advise the supporting organization to send funds to one of your favorite charities.  If your charitable deduction is limited, you can carry forward any non-deductible amounts for up to 5 subsequent years.

There are many benefits to using a donor advised fund over a traditional “checkbook charity” approach.  Some of the more compelling advantages are that you can separate your grant-making from the end-of-year deadline for getting a deduction in that year.  For calendar year tax planning, you must only time your contributions into the fund (along with taking your possibly limited charitable deduction).  Thereafter, grants may be made at your leisure – you no longer have to track your grant donations (although the supporting organization will do that for you – and generally make those grant records available online).

As part of your grant making, you can specify to the supporting organization whether the grant is to be made anonymously or not. Furthermore, your supporting organization will check if the entity you’d like to donate to actually satisfies the condition of a 501(c)(3) organization, further simplifying your responsibilities in making charitable donations.

Long story short, if you are the kind of person that recognizes that what you have accomplished could not have been done without the many investments made by others – and you’d like to “give back” in an efficient and practical way, then a donor advised fund might just be your ticket.

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