Are You Well Diversified, or Simply Suffering from Savings Dispersion?
It's more common that you think — having your savings and investments spread out across the country in a jumbled miscellany of IRAs, brokerage accounts, 401(k)s and other employer-sponsored retirement plans. The eternal optimist in each of us might wish that dispersion is merely another form of diversification, but the pragmatist in each of us must eventually admit that “savings dispersion” is often times more the result of good, old-fashioned inertia than any well-thought-out strategic plan.
If you're one of many whose investments are randomly dispersed, you can take comfort in the fact that you’re not alone. A study by Personal Capital discovered the average number of financial institutions on a per-user basis is about 151. But just because such random account dispersion is the norm doesn’t necessarily mean it’s the best, or most effective, way of managing your financial well being.
So, when does it make sense to diversify the physical location of your savings and investments, and when does it make sense to consolidate? Now.
Consider the physical location of your various investments to determine if your current account positioning is efficient and well-reasoned or merely the inevitable outcome of following the path of least resistance.
What does it mean to maintain a well-diversified portfolio when your assets are spread out between numerous accounts on a variety of different trading platforms? The bottom line is this: your ability to construct, monitor, and regularly rebalance a logical, risk-appropriate, diversified portfolio is severely hampered when assets are dispersed across multiple platforms.
While at times we have to deal with two or three distinct platforms (like your IRA and your current 401(k) plan), account dispersion beyond this seldom leads to improved asset allocation. The exception to this general rule is the case in which a separate account is maintained with an alternative provider for the distinct purpose of acquiring and holding a specific asset that is not available through a primary provider.
Given the complexity of the federal tax code, it’s not surprising that there is a smart way and not-so-smart way to manage your investment portfolio when it comes to seeking optimal returns on an after-tax basis. In addition to managing your portfolio efficiently for tax purposes, the timing of investment liquidations and withdrawals can also have a significant impact on fees and current tax liabilities (like Medicare premiums and taxes on Social Security income).
Needless to say, tax-efficient portfolio management requires a holistic perspective where buy and sell decisions can be made based on the overall make up of your investment returns as well as your current-year tax situation. As with other strategies requiring a holistic perspective, the ability to manage your overall portfolio for tax efficiency can be severely hampered by having a portfolio that is dispersed across multiple investment platform.
Albert Einstein is purported to have once said “everything should be made as simple as possible, but not simpler.” Put another way, complexity should be eliminated whenever possible, but must be retained — in certain circumstances —where the complexity is central to the core objective.
While financial decisions should seldom, if ever, be based on simplicity alone, rational investors will tend to prefer simplicity over complexity — except for circumstances in which dealing with greater complexity can be shown to improve results or provide additional benefits.
The same principles that held true for Einstein when he was developing his Theory of Relativity hold true for today’s investors when weighing the pros and cons of asset consolidation. In situations where having a multitude of disparate accounts is the direct result of a conscious, well-reasoned investment strategy, the “ends” may well justify the “means.” On the other hand, when having a multitude of disparate accounts is merely a result of your various pit stops along life’s highway, you would be wise to question what — if any — benefit is being derived from the added complexity.
If your investments are spread out more by happenstance than by design, now is as good a time as any to take stock of your situation. As you assess each of your current accounts, you may find it helps to ask yourself the following questions.
- How did I end up with this account in the first place?
- Does the initial reason I opened this account still hold true, or have my circumstances changed?
- What, if anything, is unique about this account — or this provider — that is helping me to accomplish my overall objectives?
While asset diversification is a crucial component of virtually any savings and investment strategy, having your savings randomly dispersed throughout a variety of investment platforms seldom represents an efficient — or effective — means of achieving proper diversification. While it is relatively easy for some to overlook the inherent inefficiencies of asset dispersion in the midst of a booming economy and strong market, in challenging economic times such as these, every dimension of one’s investment strategy takes on increased significance. So, perhaps it’s time to ask yourself, “Are my savings well diversified…or simply dispersed? Contact your financial advisor for more information and to review your individual investment plan.
Investors should consider the investment objectives, risks, charges, and expenses of the fund carefully before investing. Download a prospectus, or summary prospectus, if available, that contains this and other information about the fund, and read it carefully before investing.
Asset allocation and diversification do not guarantee a profit or protect against loss.
The information set forth here is general in nature and does not constitute tax advice. Specific questions should be discussed with your tax advisor.