Welcome back Portfolio Rescue, as always I am joined by producer extraordinaire Duncan Hill. Duncan, last week the show was a little downer, I think, we had a lot of recession talk, and basically the idea was history has shown that the only way to get inflation down from current levels of like 8%, really high inflation, is to see a recession to pull that back.

So let's play one of my favorite Austin Powers clips before we get into what I'm going to say here. "Allow myself to introduce myself." Alright, so allow myself to contradict my self. So I don't know if we're going to go into a recession, I was laying out the historical precedent for it, but let me contradict my self on this one.

So consumers could cut back in the face of higher inflation, right? Higher costs mean I'm going to spend less on certain items, they could pull it back, or they could lever up and borrow or spend down their savings. If you think about it, inflation has really only been above trend, and I call trend 3% or so, which is what it's been for the last 100 years, since last April.

So we're talking about a year with high inflation, higher than average inflation. Let me share some anecdotes from this week, see if this sounds inflationary to you. Delta's CEO this week said that they had the busiest two days of history for sales for the airline, ever. Ever. Busiest two days ever for sales.

My Disney trip a few weeks ago just slammed with people. Ever since I started talking about that trip, I've been getting some tips and stuff from my DMs and email from Disney insiders. They said in March they think the park could have its biggest week ever. Ever. Places are packed.

And let me tell you, inflation at Disney, if you think inflation is bad everywhere else, it's in the stratosphere there. Here's what people do not care. When we got back from Disney, we were kind of on the fence about doing something for spring break in April, and right when we got back from Disney, we said, "All right, let's book a trip." Basically, the entire state of Florida was sold out.

Obviously, we waited a little too long, but there was nothing. No hotels, no resorts, no Airbnbs. Those are just kind of minor anecdotes. The housing market is still on fire. Two-thirds of Americans own a home, right? And rates are going up, right? Mortgage rates. If you bought a home before the last year or so, you've built up a ton of wealth in your house.

My point is, there's a ton of pent-up demand from the pandemic. Consumers have spent the last two years repairing their balance sheets, paying down debt, building up savings. What if inflation is just this thing that was caused by exogenous shocks like the pandemic and a war? What if those things kind of improve in a couple months?

I still believe the probability of a recession is higher today than it was a month ago, but I'm not 100% certain about that. I know we'll see one at some point, but I don't know. When will it be? I don't know. Jerome Powell yesterday, my colleague at the Fed, said the probability of a recession in the next year is not particularly elevated.

So I don't know. Is it this year, next year, four years from now? I honestly have no idea. I do know that this is the craziest macro environment I've ever seen. So if anyone tells you who knows how this is going to play out and a recession is going to start here or not going to start here, they're either delusional or lying because no one really knows, especially with the setup we're going through.

So that's where I am, and I know we're going to talk about recession talk today on the show again because we had some questions to follow up from this. I saw someone in the comments on Animal Spirits telling you guys that Kiyosaki turned out to be right. I think they were being serious.

All right, so that's where I am on recession talk. So let's get into the first one because I know some people in the comments last week were asking after I kind of gave a little doom and gloom. So where are we at? Yeah, I love the first one here.

We're starting off with a super, super brief one. So first up we have what are some of the moves you're making to prepare for the recession? And they're saying it like it's a foregone conclusion, right? The recession. I think this was a comment actually last week on last week's show from YouTube, so we're getting some good questions in there.

Let's do a little recession history lesson. So John, give me a chart on of the dates for recessions here. So this is since World War II, so we're talking about the last, call it 80 years. We've had 13 recessions. That means you have one every five and a half or six years.

Now, of course, that's on average. That's not, it doesn't come on a schedule like the train, although Duncan, it sounds like your train. The schedule doesn't really matter. So again, every five and a half or six years now, even though we just had one in 2020, you think, okay, it's going to be a while, but there have been recessions that happened pretty quickly, you know, back to back.

So there was one that happened in the late 1950s and it happened again in 1916. There was a recession started in 1980, and it was six months long. Then in 1981, we had another one again, that was actually caused by the Fed to get rid of recession or to get rid of inflation, ironically.

So it's not out of the question to have them relatively quickly in succession with one another, but even if we don't go into recession this year or next year, eventually it's going to happen. But I think preparing for recession is not what people think. Duncan, remember last week you asked me, when you got hit in a football game, was it better to know it was coming or be blindsided so you could tense up, right?

I think that idea of tensing up is actually worse when you're thinking about a recession. So Peter Lynch had his quote where he said that far more money has been lost by investors preparing for corrections, trying to anticipate them, than lost in the corrections themselves, right? And I think the same is true of recessions.

How do you prepare for one? The same way you prepare your finances for anything else. I don't think you change your portfolio because you think a recession is coming. You create a portfolio that's durable enough to handle a recession because you know it's going to happen at some point.

And the other thing is, if you had the headline, "Recession is going to start in June of 2023," even knowing that date, the idea of when to time your portfolio to get out of the market and then get back in, the timing on this stuff is really difficult because guess what the stock market is for looking?

It could go into a bear market before a recession happens. It could not even go into a bear market because the government's going to step in. Who knows? How else do you prepare? A high savings rate is always a good cushion. But do you do that because of a recession or because having a high savings rate is good for you regardless?

You do it because it's good regardless. You have an emergency savings fund. God forbid you lose your job, right? And the other thing is, we're talking about recessions like a contraction in GDP. You could always have a personal recession that has nothing to do with the economy having a contraction.

You could lose your job. You could incur a huge expense because you have a big medical expense. You have something wrong with your house. You have a tree fall off your house, whatever. Your car breaks down. You could lose money on a bad investment. Plenty of people have lost 60 or 70% of their money investing in tech stocks in the last few years.

And guess what? There hasn't been a recession. They just lost that money. So what am I personally doing to prepare for a recession? The same thing I'm doing outside of a recession. I'm saving money. I'm automating my investments. I'm spending on things that matter to me. I'm keeping my credit score up by paying down my bills.

I'm only carrying intelligent debt, like mortgage and my home equity line of credit. And I'm making sure my credit score is up to snuff if I want to borrow some more money. Here's what I'm not doing. I'm not changing my portfolio because I think a recession is coming. I'm not burying gold bars in the backyard.

I think the idea of trying to time this stuff, it sounds intelligent and it's like, I should prepare. I should get ready. But you should always have your finances prepared for a recession, whether it's the economy itself going into a tailspin, or your local economy, or your personal circumstances, right?

So I think you just build that into your plan that something is going to go wrong eventually. You just don't know when. If not your backyard, where are you burying your gold? No, just kidding. I keep my gold on the blockchain these days, actually. That's safer. All right. Let's do another one.

Okay. So up next we have a question from Jeff, who writes, "You guys often say that down markets are good for young investors with long time horizons, but can't they be good for early and regular retirees too? If I have a 60/40 portfolio with comfortably on a 3% withdrawal and have two years in cash to ride out a down market, can't my yearly rebalance help me buy low?

I'm hoping to have a 40-year retirement and I'm 15 years away from max social security. Ben wrote a great post, as usual, on sequence risk, and by withdrawing from either my stocks or bonds for expenses and rebalancing, depending on what's up or down, a retiree can do fine. It seems like a down market could be my friend too." Duncan, we have some very astute viewers here.

This is a great question and brought up some very good points, right? So I think that a lot of people say, "Why in the world would I own bonds right now?" If bonds are paying 2% for 10-year coverage. We've had a lot of those questions over the last months.

Right. So bonds are paying 2%, inflation is at 8%. Why in the world would I ever own bonds? I think there's four reasons to own bonds. The first one is that bonds hedge against market volatility, and then for some people that means they hedge emotional volatility. So put this chart up here of when bonds outperform stocks, when the stocks fall.

So this is every year going back to the late 1920s when the stock market fell, and the average down year in the stock market when it's down is about a 13% loss. Obviously the range is all over the place. But in those years when stocks fall an average of 13%, the bond market is up 5%.

So this is the S&P 500 in 10-year treasuries. So bonds are a great hedge against a falling stock market. And guess what you don't want to do when they're falling? Sell your stocks. And that's as a retiree, if you don't have savings coming in anymore, you don't have that human capital anymore, you're gonna have to spend your portfolio down.

So you don't want to sell your stocks when they're down and have a double whammy of stock losses and selling. You have those bonds for that stabilizer. And actually I looked at this, the only time that both were down in the same year, it's happened four times previously, 1931, 1941, 1969, and 2018.

Right now, bonds and stocks are both down this year. So 2022 could be the next one. It's possible. Number two, bonds are a hedge against deflation. Deflation sounds like the furthest thing in the world from us right now since inflation is so high. Inflation is bad for bonds as a risk over the longterm.

Deflation is actually, that's why you hold bonds. It's actually a good thing because your money's going up that you're being paid back. So no one thought inflation was going to happen until the pandemic hit. No one right now thinks deflation is going to happen. I tell you what, it's going to happen at some point, we don't know when.

As our listener pointed out here, bonds can be used to rebalance, right? So you can either, when stocks fall, you can either spend your money from bonds and leave those stocks alone so they have time to come back. Or you can take those bonds, if you're not selling at all, and use it as dry powder.

The whole point of buying low comes from having some dry powder. If you don't have savings anymore and you're a retiree, then bonds are your dry powder. And it makes a lot of sense. And of course, you're not going to spend all that 40% down. And now let's look at the, so of course, bonds as the spending, let's look why that's going to be the case.

So let's put up this chart about how long it takes a stock market to break even. So this is historical bear markets, again, going back to the 1920s and it goes back to the Great Depression. And I looked, how long from the peak of the market to the trough and then break even, right?

How long does it take? And the longest one ever is the Great Depression. It took 13 years. That's with dividends reinvested. But the average, even including that really long period, was two years, roughly, 2.2 years. Take the Great Depression out of there, that long one, that's your worst case scenario.

It's more like 1.7 years to break even. Since 1950, call it more modern times, it's about 1.3 years on average from the time the bear market begins until you make your money back in the stock market. And so if you have bonds, that year-long period can seem like it takes forever.

You don't want to be selling your stocks while they're down, while they're underwater. So that's the whole point of bonds, right? And the idea here, this reader said that they have a 3% withdrawal rate, right? I think one way to think about bonds for people in terms of, well, how do I set my asset allocation, especially retirement?

I don't know what's the mix between safe assets and these assets I want to grow, because guess what, you have two, three, four decades left once you retire to still grow your assets. So this person has 40% in bonds, they're spending 3% a year. Taking out the whole inflationary thing of your spending, that's roughly 13 years of current spending in bonds.

So that's how much of a buffer that this person has built in to allow stocks to come back. And I think that's the idea here, is that bonds can help you offset and not have to sell stocks. That's the biggest thing, is you don't want to make a bad situation worse when stocks are down by selling them.

And that's what bonds can do. And so I think this person, great points, makes a lot of sense. That's kind of how you can think about bonds, though, in the current environment. Yeah. Yeah, good take. And so up next we have a question that is another long one. So this one is, "I've been a long proponent of directing my own investments.

I do quite a bit of research and use a basic strategy primarily built on utilizing index funds with a splash of diversification into more fun and alternative investments as well. As my nest egg gets larger, I'm starting to worry that I'm leaving value on the table by largely ignoring tax strategy beyond funding my 401(k) and trying not to sell assets within the first year.

I feel really confident in the allocation of my portfolio, but tax strategy seems like a mysterious thing that rich people use to get richer. At what point is there enough value to be gained through tax planning to make the cost of an advisor worthwhile?" I have my own little bit of follow-up question, like a noob whale question.

What exactly do they mean by the cost of an advisor? Could you maybe just go over that? I think they're trying to determine when does it make sense to hire an advisor and then bring in some sort of tax planner to help? When is your situation? And so I think we're going to talk about that in the answer here.

So we've talked about this before, Duncan. Taxes are one of the biggest question categories we get, by far. People hate paying taxes. So we needed to grow our tax team in the last couple of years, and we put out something on LinkedIn and we said, "Hey, we need someone named Bill, because our other guy, Bill Sweet, we need to keep it the same." So we got another guy named Bill.

We were so lucky. Let's bring him in. Bill Artzaronian. Hey, Bill. Hey, guys. Thanks for having me. A tax professional at Ritholtz Wealth Management. Bill, how do you quantify the idea of tax planning when meeting the clients? What is a reason someone can reach out? Because obviously this person is thinking, "My life is getting a little more complicated.

When does it make sense to talk to a professional and figure out if it makes sense for me?" Right. And it is really hard to quantify. We can quantify a portfolio through returns, but with tax planning, it's like, "Did I pay less tax?" And that's not always the best answer.

Sometimes, and I'll give you an example of this later, sometimes paying more tax in a given year might be the right decision. But I've identified three tax events that make tax planning worth it. Number one is market events. We may be living through one right now, but let's take you back two years, February, March 2020.

Aside from having an advisor to help walk you through a 35% drop in the market in 30 days, there were tax savings opportunities in that window through tax-loss harvesting, through some other strategies that we can discuss. And so these market events come up every couple years. If you have a tax plan in place, you're there to take advantage of those.

Number two is life events. So this is marriage, having a child, maybe a career change with equity compensation that you don't quite understand. Having an advisor or a team around you of professionals makes you more prepared for those types of events. And number three is policy changes. And these happen every, maybe twice every decade.

But if you have a team around you to prepare and know your specific situation, these policy events, you can be prepared for them without having to read the legislation. Nobody wants to sit through tax documents and read what's new. You want to rely on a team of professionals to have you prepared for those moments.

And maybe you could talk about the difference of hiring a CPA to do a tax return for you versus having an advisor who has a tax element to their firm, right? Because that's two different things as well. Yeah. Historically, these two functions have been totally separate. You've had an advisor, you've had a CPA, and they don't really communicate.

They don't talk to each other. And I've noticed a lot of CPAs and tax professionals out there, they focus on tax and that's it. They bang out hundreds of tax returns each year. They talk to you once a year, they get you your tax return, they say, "Okay, call me in 10 months, we'll talk again." But what we do at RWM and some of our tax offering involves the portfolio, it involves a financial plan and we're now offering tax prep to some of our clients.

And when you have those two things hand in hand, it makes your financial plan part of the tax planning process and you're able to achieve a lot more. And I want to give you a few examples of that. We started working with a small business owner in last year, 2021, and maybe I shouldn't say small business owner.

This is a family that their small business net's $3 million in profit each year. And I took a look at their tax return and they were missing out on a huge deduction for small business income. It's a qualified business income, QBI, it's basically a 20% deduction on the net profit.

But there are limitations to it. So this client, their CPA was not planning for these limitations and the CPA would get their information every January, give them a tax return and say, "Cool, that's it." But I looked at the tax return, I said, "All we have to do is make a few very minor changes and we can get you a much, much larger deduction." And the total tax savings for this family in 2021 alone was $150,000.

So that's example one. Example two, and this is more common, 150 grand, that's an outlier. But more common, you know, we had a family that we were working with that was charitably inclined. They were giving away $10,000 to $15,000 a year, but they weren't receiving any tax benefit because they were still under the line between standard deduction and itemized deduction because they didn't have a mortgage, so they weren't itemizing their deductions.

So they were taking the standard deduction each year while giving away $10,000 to $15,000. So what we used is, we used a donor advised fund, which is basically just a middleman in the form of an investment account where you put charitable contributions and then the donor advised fund sends out cash to the charities of your choice.

And we bunched five years of their charitable contributions into a single year so they could itemize with a large itemized deduction in that first year. And then years two, three, four, and five, they were going to take the standard deduction anyway. So the total tax savings on this strategy was about $35,000 over that five-year period.

And these things will not happen unless you have a team around you that knows what they're looking for. And these decisions are not made in a vacuum. So working with an advisor, working with an advisor with some type of tax background or a professional team who understands your very specific situation, it puts you in a position where you can take advantage of tax planning that you otherwise probably couldn't.

So yeah, I think your point is like, if you do go to an advisor who does tax planning, the idea is not just they're going to find a bunch of mistakes you've been making. It's probably possible that you could find a bunch of stuff you're not even thinking about yet.

And you haven't even thought to build into the plan and how it works together with the rest of your investments in your portfolio and all those other things, right? It's like this holistic thing where you can look at everything. That's right. And it may be once every five years that you find something.

It's not going to, it probably is not going to be an annual thing where you're saving a bunch on taxes because you're working with an advisor, but working with an advisor puts you in a position where when the opportunity comes, you're there to strike on it. Yeah. So I think for this person wanting to know it doesn't make sense, I think it makes sense to reach out to someone and understand what are you going to be able to do for me tax wise?

So here's my situation. What are you going to do for me? I think so. Having that conversation probably makes a lot of sense. All right, Duncan. Let's do the next one. Okay. I just learned something new. Donor Advised Fund. That's a new thing I can drop when I'm around finance people so they know I know what I'm talking about.

DAF. Add it to your acronyms. Yeah. Okay. So up next we have a question from Gregory who writes, I like this one. I got on the ARC train at exactly the wrong time earlier this year. I don't believe in it and I'm tired of looking at my portfolio. So I'm interested in tax loss harvesting.

Can you explain tax loss harvesting and how it works? I vaguely get the idea, but I want to make sure I'm selling my losses in the most efficient manner. Only in years when I want to offset short term capital gains, does it have to be short against short or long against long?

Okay. Now this is probably something that a decent amount of people are going through right now if they got into this late. So as of right now, the ARC Innovation Fund is down 53% from all time highs and that probably is a little more than a year ago. So I'm sure a ton of money poured into this one.

So there's a lot of people thinking right now if I, and I think I like the way that this viewer is thinking about this because they're saying, all right, I don't want to stick with it. I timed it wrong. Geez, I got to get out, but can I do it in an intelligent manner?

So Bill, start off, what are the considerations here? What is tax loss harvesting in the first place that people don't know? And then what are some of the things that you can think about when trying to pull this off? Yeah. So first, honestly, if you're sick of looking at this position, whether it's ARC or whatever else, you're probably better off without it in your portfolio rather than looking at it every day.

The psychological benefit of dumping it is probably going to be greater than any tax benefit you could see. Yes. The whole, "I'm going to wait until it breaks even," could just have you just pulling your hair out until it happens or maybe never happens. Right. Exactly. So tax loss harvesting, very simply, is selling an asset for less than you paid for it.

When you capture a gain like that, when you realize, I'm sorry, when you realize a loss like that, they can offset your capital gains. Now if you have net losses, up to $3,000 of net losses each year can be used to offset your ordinary income, your wages, your other income on your federal tax filing.

Excess losses carry forward into future taxes. By the way, can the government increase that amount because inflation? Let's put it up to $4,000. $4,000. I mean, this $3,000 limit has been in place since 1978. So we're talking probably close to- Is it really? Holy cow. Jeez. I don't know.

I can't do that compounding in my brain. It's been 35 years. So yeah, it may be time for a change. So with tax loss harvesting, let's play with your ARC position. Say you have a $10,000 loss on the ARC position. You have no other activity for the tax year.

$3,000 of that loss is going to be deductible on your tax filings, and then $7,000 is going to carry forward into the next year. Now let's say you have the $10,000 ARC loss, but you also have an Amazon gain of $15,000 that you realize. So your net gain is $5,000.

So the ARC losses are there to offset the gains from the Amazon position. In terms of ordering, now we haven't gone into short-term long-term, so let's do some ordering. First, your short-term losses offset your short-term gains. Next, your long-term losses offset your long-term gains, and long-term is a holding period of 365 days or more.

If there are excess losses of one type, they can offset the net gains of the other type. So back to our example, $10,000 ARC loss, $15,000 Amazon gain. The ARC loss, let's call it a short-term loss. The Amazon gain is a long-term gain. You still have a net $5,000 gain.

That's going to be a net $5,000 long-term gain because you had $15,000 of long-term gains versus $10,000 of short-term losses. Where this is most effective is probably in a portfolio that's mixed between passive and active. We do this through direct indexing through our Canvas platform. That's our passive investing platform.

Other robo-advisors like Betterment do a nice job of this. But you find losses in your passive portfolio to offset gains in your active portfolio. So if you're able to do that, if you're able to have passive losses, you're less likely to worry about the tax on the gains in your active portfolio because you're trading in the active portfolio, but you have losses to soak up any gains.

So that's where it's most effective is if you have kind of a mix and you're able to realize the losses in the passive side of the portfolio. Let's talk about one tax thing I know about. Let's say the wash sale rule. Let's say this person was a believer in ARK and they said, "I've got this huge loss, but I want to do something where I can sell these stocks, but I want to stay in the innovation game." So there's a bunch of ARK imitators now, right?

I found another fund. So I sell ARK. I lock in this gain. I buy another ARK imitator from someone else that's these innovation stocks. How long do I have to hold that fund until I can then sell it and buy back into ARK without having some weird taxable thing that messes with my taxes?

If you want to buy back ARK, and it sounds like our listener here does not, but if you want to buy back ARK, it's a 30-day waiting period. So you can't just sell for a loss and then immediately pick it back up. Right now you can do that in crypto, and that's kind of a little bit of a crypto loophole, but for an ARK position on a stock, you can't just sell it for the loss and pick it back up and reset your cost basis.

There has to be a 30-day waiting period. And you have to be careful because if you sell ARK and you buy a substantially identical security, that would be a wash sale as well. Now that substantially identical ruling, that has not been challenged very much in tax breaks, so there's not a long history.

But the IRS does have language to say you can't buy the substantially identical security. Duncan, are you ready to tax loss harvest some of those Robinhood holdings? I think I am. I think I've been doing it. All right. Bill, that was great. By the way, it's St. Patrick's Day and the first day of March Madness, and my one question is, why is this not a half-day holiday?

Everyone's done working at noon. We need some time. I mean, there's probably 10 basketball games today. Duncan said he wanted to drink Guinness for the show. It was a little before noon, so we're not quite drinking yet. Bill, is that a signed basketball behind you? It's signed by Bill Hertz-Rooney, and so I play basketball with him.

You know, I don't play with him. It's up for sale, if anyone wants to buy, it's up for sale. On that note, I've actually seen a video of Bill dunking a basketball on a regulation board. Oh, that's right. Yes. Bill, how tall are you? I'm 5'8". A CPA at 5'8" and can dunk.

Wow. Wow. That's impressive. Not bad. All right. Thanks for all your tax help. We'll have to have Bill back on the show again because, again, we get so many tax questions. Keep those questions and comments coming. Remember, askthecompoundshow@gmail.com. If you want to go to idontshop.com, we have a new compound hat in there, I believe.

We do. It's a flat brim, so Michael can't wear it. Tomorrow, Compound and Friends. Who's on, Duncan? Yes. So today we have Leanna Hawkins and Dan McMurtry. Awesome. Animal Spirits will be back on Monday and Wednesday. Everyone enjoy all the games, enjoy your weekend, and we'll see you next time.

See you, everyone. Bye. Bye. Bye. Bye. Bye. Bye. Bye. Bye. Bye. Bye. Bye. Bye. (upbeat music) (upbeat music)