The Profound Power Of The Unrealized Gain - Forbes

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Unrealized gains have a benefit that doesn't show up in percentage return. For example, when you have a $2 million unrealized gain in a $5 ... BETAThisisaBETAexperience.Youmayopt-outby clickinghereMoreFromForbesApr21,2022,07:30amEDTFixingPropertyManagementCanHelpLandlordsAndTenantsAlikeApr21,2022,07:15amEDTFourWaysMerchantsCanProtectAgainstAccountTakeoverApr21,2022,07:00amEDTUnderstandingTheSplit-DollarLifeInsuranceBenefitApr21,2022,06:00amEDTWealthManagementDivisionsToBigBanks:‘You’reWelcome’Apr20,2022,01:15pmEDT14PracticalStepsYouCanTakeNowToPrepareForInflationInRetirementApr20,2022,10:50amEDTInvestingCanHelpYouCombatYourDebtsApr20,2022,07:30amEDTHelpingWomenPrioritizeFinancialEmpowermentApr20,2022,07:15amEDTEncourageBusinessIdeasThroughGamificationEditStoryMoneyTheProfoundPowerOfTheUnrealizedGainGilBaumgartenForbesCouncilsMemberForbesFinanceCouncilCOUNCILPOSTExpertisefromForbesCouncilsmembers,operatedunderlicense.Opinionsexpressedarethoseoftheauthor.|Membership(fee-based)Aug12,2021,07:00amEDT|SharetoFacebookSharetoTwitterSharetoLinkedinGilBaumgartenistheFounderandPresidentof SegmentWealthManagement andauthoroftheAmazonbestseller,FOOLI$H. getty Moneymanagersandhedgefundshangtheirhatsontheirtradingprowessandthegloryofperiodichomeruns.Anysuccesstheyhaveprovidesgoodcoverforthehighexpensesendemicinthebusiness. Yet,theproposaloftheseactivemanagementproponentsisitselfquestionablewhenyouconsidertheoverwhelminglikelihoodofunderperformancewhenthedustsettles.Moreover,thequestionableturns downrightdubious afteryouconsiderthenear-certaindetrimentaltaxconsequencesoftheprocessitself.  Trading-centricstrategiessufferfromreturnerosionduetoannualtaxes,short-termgainsathighertaxratesandthe(likelysoonbygone)step-upinbasisrule,whichcanmakeinvestingtax-freeatanyowner’sdeath.Buttheerosioncanbehardtospotfortheuntrainedeye. Amentalquirkcausesmanypeopletoequatepercentagegainwithdollargain,evenwhenrelationshipsbetweenthetwoarenotlinear.If“A”isatradingstrategyand“B”isapassivestrategy,“B”couldprovide2Xthe“dollarreturn”withnoremarkabledifferencein“percentagereturn”atall. MOREFORYOUHowToGetApprovedForStudentLoanForgivenessHiddenInTheReconciliationBill:ARetirementPlanMandateThatWillTakeMostPeopleBySurpriseCryptoPricePrediction:$100,000BitcoinCouldComeEvenSoonerThanYouThinkWithEthereumLeadingTheWay Unrealizedgainshaveabenefitthatdoesn’tshowupinpercentagereturn.Forexample,whenyouhavea$2millionunrealizedgainina$5millionaccount,youmayhave$450,000worthofunpaidtaxesembeddedinthatgain.Ifyousoldthosesecurities,realizingtheembeddedgains,andthenpaidthetaxesfromthataccount,itwouldcountasawithdrawal onyourperformancemeasurementsoftware.Withdrawalsdonotaffectpercentagegainsusingindustry-standardtime-weightedreturn(TWR)performancecalculations.Forsimplicity,ifwithdrawnDecember31andinvestedproportionatelythesamewayafterward,anaccountmakingwithdrawalswouldhavethesamepercentageperformancenextyearasonethatdidnotmakeawithdrawal.Butthat$450,000earnsdividendsandgrowthtoo,whichshowsupasdollarsbutnotaspercentages.Overdecades,thiscanaddafourthtothedollarvaluesearnedwithouteverprovidinganotherpercentagepoint.Undercertaincircumstances,ifyouholdthatinvestmenttodeath,thesurvivorcanexpecttohaveawindfallthatcouldwelldoubleallthepriorreturnsmathematically.Ifyouworkwithamoneymanager,askthemiftheycanprovidesomemeasureofassurancethattheirtradingstrategiescancompete. Investorsoftenfindthemselvesengagedinactivemanagementbecausetheygettrippedupbythesimplementalmathofcompounding.Toillustratethispoint,considerthatmostpeople,inmyexperience,wouldchooseOptionAbelowwhenshownafive-yearstringofpercentagereturns.            Year1    Year2    Year3    Year4    Year5  OptionA  +20%     +20%    +20%       +20%      -20%  OptionB  +11%     +11%      +11%       +11%       +11%  Whenannualized,OptionApostsa10.65%returnoverthefive-yearperiod,whileOptionBposts11%.So,ifyouchoseOptionB,you’dactuallyendupwithmoremoney.Butmostpeoplefindthe20%returnstooalluringtopassup.  WhenIwasakid,mydadshowedmehowtocatchachameleoninourgarden.Hewouldwigglehisfingersinfrontofthelizard’snosewhilehegrabbeditbytheneckwithhisotherhand.Don’tbedistractedbythewigglingfingersofexpensivetradingmethodologiesandlosesightofthetaxmangrabbingyoubytheneck. Theinformationprovidedhereisnotinvestment,taxorfinancialadvice.Youshouldconsultwithalicensedprofessionalforadviceconcerningyourspecificsituation. ForbesFinanceCouncilisaninvitation-onlyorganizationforexecutivesinsuccessfulaccounting,financialplanningandwealthmanagementfirms.DoIqualify? Followmeon LinkedIn. Checkout my website. GilBaumgartenEditorialStandardsPrintReprints&Permissions

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