UG and New Tax Law
(TMF Sheard)
LEXINGTON, KY. (July 16, 1998) -- It's been a mixed result for the Unemotional Growth model in July. The original monthly cycle model had been on a tear until a sharp drop last month when Parametric Technology <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: PMTC)") else Response.Write("(Nasdaq: PMTC)") end if %> was sliced in half. But overall, the model's still ahead 25.35% for 1998.
Long-time holding Dell Computer <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: DELL)") else Response.Write("(Nasdaq: DELL)") end if %> is ripping up turf again this month, gaining more than 22% since July 3. And PeopleSoft <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: PSFT)") else Response.Write("(Nasdaq: PSFT)") end if %> has been scoring pretty well too, up nearly 10% for the month.
But the other three holdings are all losing ground against a backdrop Standard & Poor's 500 gain of better than 3%. HBO & Co. <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: HBOC)") else Response.Write("(Nasdaq: HBOC)") end if %> is down 13% after merger talks with McKesson <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: MSK)") else Response.Write("(NYSE: MSK)") end if %> broke off. Cambridge Technology <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: CATP)") else Response.Write("(Nasdaq: CATP)") end if %> is off 5% and Anchor Gaming <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SLOT)") else Response.Write("(Nasdaq: SLOT)") end if %> has left 3% on the table.
Altogether, the portfolio is up 2.27% for the month.
One of the questions raised recently is whether the new tax reforms will affect Unemotional Growth, and while they don't affect the model directly, they do have some indirect impact. I've written on several occasions that the UG approach is really only practical in an IRA account (or a 401(k) that permits individual stock trading) because the gains are generally short-term holdings and would be taxed as ordinary income.
This is still the case, of course, but for some people (those in the 28% or 31% tax brackets), the taxes were about the same whether they held one year or not. For them, UG was still a possibility in taxable accounts.
With the new tax reform, however, dropping the holding period requirement to 12 months for the lower 20% tax rate, that's not still going to be the case because of the competing strategies that hold stocks a full year. Let's take an investor in the 31% tax bracket. If he manages the UG strategy's historical average since 1987, he'd have a pre-tax return of 38%. Take 31% of that away for short-term taxes, and the after-tax return is 26.2%.
If the same investor gets 30% using Keystone (or even a few points higher using one of the aggressive relative strength portfolios in the Workshop), at a tax rate of only 20%, the after-tax returns are getting close to the same levels (24% when using a pre-tax return of 30%). So the added costs of trading in the Unemotional Growth approach just don't hold up in a taxable account, especially for someone in the higher tax brackets.
Now before anyone tells me how unrealistic those historical returns are, I'm just using the historical returns for each approach over the period we've studied so far. If the future returns are substantially lower, so be it. It's likely that the relative performance of several of these models will remain in similar relationships, and that's really what I'm trying to measure.
For most investors, the UG approach is still only practical in a tax-deferred, deep-discount brokerage account. For any other situation, one or more of the screens using 12-month cycles would be better in terms of after-tax returns.
Check out the latest file updates for the Workshop:
New Rankings
| 1998 Returns
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[Robert Sheard is the author of the The Unemotional Investor (Simon & Schuster, 1998) available now at Amazon.com and your local bookseller.]