The following vignette, part of our “SMAs at Work” series, describes how a hypothetical financial advisor could use Dimensional SMAs to meet the needs of a prospective investor. The advisor’s firm has already signed an investment management agreement with Dimensional.
In Part 3, the advisor, Mary, meets prospective client Patricia, a tax-sensitive investor who came to Mary through a referral. Patricia has accumulated much of her financial wealth in the stock of her employer, and Mary wants to discuss investment options that address this heavy concentration in one company.
Mary first met Patricia when another client brought her as a guest to a summer picnic hosted by Mary’s firm, and the two have spoken briefly by phone about Patricia’s financial goals. The software company where Patricia works recently went public. Her role as an executive and her equity ownership leave Patricia heavily exposed to the performance of the technology sector (and her employer’s stock, in particular). Most of her financial wealth, outside of the company stock, is invested in an S&P 500 index fund. Based on Patricia’s holdings and the fact her company is a constituent of the S&P 500, Mary determines Patricia has about a third of her financial wealth tied to her employer.
Mary’s goal is to provide Patricia with holistic options that take into account the personal and financial investment she has in her company. While other advisors offer direct indexing solutions—for example, an SMA that replicates the S&P 500 but excludes Patricia’s employer—Mary knows the Dimensional SMA offering is a more systematic, integrated approach that seeks to add value at every step of the investment process. Dimensional’s SMA Center provides a seamless experience through which Mary can personalize a solution for Patricia.
Mary prepares two options that start with the SMA US All Cap Core Equity 1 strategy and incorporate multifaceted tax management. Option 1 excludes the stock of Patricia’s employer from her investment strategy. Option 2 excludes not just that stock but also the specific industry within the tech sector in which Patricia’s employer operates.
Example of Sector Allocation Summary
Example is hypothetical and for illustrative purposes only. This example summarizes equity allocation by sector of the investor’s customized strategy, of the starting strategy, and of the benchmark.
When Patricia arrives for their meeting, Mary explains that the SMA US All Cap Core Equity 1 strategy provides exposure to a wider universe of stocks in the US than the large caps in Patricia’s current investments. The strategy pursues higher expected returns by focusing on stocks with smaller market capitalizations, lower relative prices, and higher profitability.1 Patricia prefers Option 2 because the additional company exclusions are likely to have a small impact on the portfolio’s expected return and the customized strategy still will have high overlap with the starting strategy. At the same time, the exclusion of the broader set of tech firms provides a better way to balance Patricia’s overall sector exposure.
Mary also explains that the Dimensional SMA does more than tax-loss harvesting. As it seeks to minimize realized capital gains and harvest losses, the solution also evaluates the daily tradeoffs involved in pursuing higher expected returns and diversification while seeking to minimize costs and taxes. It also considers the tax efficiency of dividend income and monitors for charitable gifting opportunities not only around year-end but also, for example, around corporate actions and portfolio rebalancing.
Patricia is pleased to learn that she can better diversify her wealth while pursuing a more integrated investment approach that incorporates personalized tax management.
Mary and her colleague Ben have decided to set up their SMA Center workspaces such that each can view the SMA investments managed by the other—both live, funded accounts as well as those not yet finalized. Mary and Ben feel this supports their team-based approach and also allows for continuity when one partner is out on vacation or due to an illness. After Patricia leaves, Mary consults with Ben about her plans to proceed with the customized SMA solutions. Before going home, Mary sees a notification from the SMA Center that an account she had launched for a client two days ago is now live and funded.