Tax loss harvesting. The very name sounds frightening. At this point, you have a loss in your portfolio. The big red bolded sign. The dreaded signals and that negative sign which indicates that your idea and thought failed. It is the opposite of the rush that people can get when investing in stocks and seeing one's 100 bucks go to 200 bucks or 300 or so on.
So what is tax loss harvesting? Well, you have already lost money, got into wrong positions. It is red out there. So why not make some lemonade off it? Rather, why not make some money off it? How do you make money. Let us say you have bought something for 1000 dollars and it is now 500 dollars. You are at an unrealized gain of 500 bucks. Now if you sell your position now, you can claim this 500 dollars in your tax return this year and likely next or the one after that - upto 3 years or so. Now, this step is admitting defeat that your idea was wrong. But then it is also a reminder that market is objective and unemotional. There is nothing personal about all this. You are just trying to maximize your investments. So is this really a defeat ? Well, say you have this 500 bucks on Stock A. You had high hopes of A and their company and employees were the best in sector and were world beaters. It is just that B came out of nowwhere and A is now simply struggling. Holding on to past glory, declaring dividends and just waiting for that project which might take it back to its glory days or at least move it out of the current stench. Sounds all familiar in the technology sector which shifts rapidly. Or the finance sector if you had witnessed that in 2008. Or really any sector where shifts are happening in a global scale. So, now you have two options. You sell your position in A and buy B. Or you still have belief in A and want to hold on to it. Or you learnt your lesson and decide that some A, some B and possibly some C as insurance is the way to go.
Let us look at each case individually.
A: You buy the dog again. You have grudge against it. Normal since you just lost 500 bucks on it. Maybe tax loss in IRS will net you like 60 bucks but still it is a loss. A bigger hurt to your ego and knowledge and pride. That spring in your feet is gone. But still you buy some portion of it or maybe decide to put all in. A goes up or down. Down means you really lost nothing from your original position. It is just a continuation of the same. Same with up. A could even go back to 1000 in say 10 years. Which is fine by you. You are a long term investor. In which case, you just pay the capital gains. So really nothing here.
B: Now this is a risk and admittance of your loss. Maybe B goes crazy up and you recover your loss that you had with A. That is a good out come. In a way market is rewarding you for your emotionless and detached behavior. B craps heavily and you now hate B as much as A. Maybe C has come now and you feel like a monkey on a musical chair who is just holding other people baggages while they make merry.
Buy some A, B and some C if you could identify C: Really that C is just your ETF or index fund. Unless it is very clear and you can sense that C has a market changing product. Usually it is recommended to go with this option.
To be continued...
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