Direct Indexing

There is a new change coming in the area of investing called Direct Indexing. What is Direct Indexing? This is where you invest in a pool of stocks that follows a particular index such as the S&P 500® or the Dow Jones Industrial Average for example. Right now, financial advisors use ETF's that invest in a multitude of different indexes. Generally, most index fund charge fees for managing the funds. Recent competitive pressures have forced a lot of these management fees to come down significantly. These management fees can range from 0.50% down to as low as 0.03%. There are some funds with management fees higher than 0.50%, but for the most part, most of the well known fund sponsors with index funds charge less than 0.50%. If you are investing in one of these ETF's, then this is the fee that you pay the fund sponsor to manage the pool of money.

Direct Indexing is going to change the investing world significantly.  Suppose your financial advisor has you invested in a portfolio of ETF's. The total management fee is based on your financial advisor's fund selections. Let's assume that your total management fee is 0.50% per year. With Direct Indexing and free trading commissions your financial advisor will be able eliminate this 0.50% fee altogether. Now, this is not something that is going to happen immediately, but it will happen. The key to this is two fold. One is zero trading costs and the other big one is the ability to buy fractional shares.

You long had the ability to buy Mutual Funds in fractional shares, but you could not buy fractional shares of ETF's. ETF's trade like a stock. You cannot buy 0.3478 shares of a stock...unless you have a brokerage firm that has the software capability to allow it. The major players like Schwab, Fidelity, TD Ameritrade, E*TRADE and others will soon be allowing you to buy fractional shares in your account, if they are not already. This fractional share issue is the key to Direct Indexing. You may have seen an ad on television for Schwab Stock Slices. This is a form of Direct Indexing, but not the full freedom that financial advisors like me prefer. We want complete freedom to choose as many stocks as we want in each client account. This is when Direct Indexing will really take off.

For taxable accounts, Individual, Joint or Trust accounts, there is a tax advantage utilizing Direct Indexing. Stocks by themselves are tax deferred. After you buy a stock and hold it, you only pay taxes if you sell it. Of course, the amount of taxes that you pay depends on the time period that you held the stock (i.e., short-term capital gain or long-term capital gain) and whether you have a profit or a loss. You can still do Direct Indexing in your IRA and Roth type accounts. There just will not be any tax advantage in doing it. However, you will save in management fees from a formerly all ETF portfolio.

In the very near future, probably in 2021, your financial advisor may come to you to discuss Direct Indexing with you. Direct Indexing will allow you to hold a portfolio of, for example, 500 stocks in fractional shares in your Individual account without having to pay an ETF management fee. This will save you somewhere between 0.03% and 0.50% or higher in fees each and every year. Your financial advisor will be fairly compensated by their normal assets-under-management fee or annual flat fee that they charge. The reason this is true is because, they have to research the 500 fractional share stocks to put into your account! This takes a lot of time and their time is valuable.

I am working on a new relationship with a firm that will be able to offer this sometime late this year or perhaps early next year. It is something that I am personally really excited about. More to come.

Let me know you I can help you today. Visit https://www.marianfs.com give me a call and/or request a Zoom Meeting via email.