Direct Indexing and other Popular Equity Investment Styles
Equity investing – or investing in the stock market – is a popular method for growing wealth, with roughly 58% of Americans who earn over $100,000 owning stocks as recently as 2022.1 When people make investment decisions, they often do so with a specific strategy in mind, known as an “equity investment style.” These strategies may be based on risk profile, growth potential, or whether the investor wants to be more “hands-off” or “hands-on” in their approach.
Of course, there’s no one style that’s inherently superior to another – which style you use is likely a function of your investment goals and circumstances. Your investment style may evolve over time and you may find that a combination of investment styles suits your needs.
Whether you’re investing on your own or you use a professional, there are a number of strategies you may deploy in order to meet your financial goals. Let’s look at some of the most prevalent equity investment styles.
Active vs. Passive Investing
Two contrasting methods for managing investments are active and passive investing. Active refers to taking a hands-on approach to the investing process, acquiring and selling assets in order to outperform a particular benchmark. This often involves investing in an actively-managed fund run by a team of investment professionals who determine the fund’s holdings based on individual stock analysis or according to a stated investment objective. Research and timing are hallmarks of active investing.
Passive investing, by comparison, is a more hands-off strategy that involves a fund manager seeking to match the performance of a certain market index rather than trying to outperform it. Investors can access this strategy by investing in a passively-managed fund that tracks a segment of the market they want exposure to.
Growth Investing
As the name suggests, growth investors look for companies whose values are expected to grow at a faster rate than the majority of the market. These are often innovators and companies earlier in their life cycles who funnel earnings into the business to fuel growth. While growth stocks may not pay as much by way of dividends compared to mature stocks, they have the potential for strong future returns.
Value Investing
With the value style, investors seek out holdings that are underpriced relative to their underlying value. The goal is to acquire assets at attractive prices on the assumption that those prices will rise when the market realizes the value of those assets and corrects. This strategy often involves analyzing the business fundamentals of individual companies to identify stocks poised for long-term growth.
Quality Investing
Quality investing operates on a simple principle: A quality business will produce consistently strong returns. To determine if a company is considered a quality investment, you may look at key characteristics, such as effective management, credibility, and financial stability. Quality stocks are generally well-run companies built on sound business fundamentals.
The quality style isn’t mutually exclusive with growth and value investing. In fact, both types of securities can exist in a quality portfolio.
Index Investing
Indexing is a popular style of passive investing by which you design your portfolio to mirror a market index. The goal is to have your stocks perform in line with the index, not necessarily to outperform it. While index investing doesn’t offer the same potential for outperformance as active strategies, these portfolios are simpler to maintain and entail fewer fees and transaction costs.
Direct Indexing: An Innovative Investment Strategy for Tax Efficiency and Socially Responsible Investing
Direct indexing is an investment strategy that involves purchasing individual stocks directly rather than investing in a fund that tracks an index. This approach has gained popularity in recent years due to its potential benefits, including automated tax loss harvesting and the ability to screen stocks using social screens. These key features make direct indexing an important consideration for investors seeking tax efficiency and alignment with personal values.
Automated tax loss harvesting is a strategy that involves selling securities at a loss to offset capital gains taxes. This can be a valuable tool for investors looking to minimize their tax liabilities. With direct indexing, the tax loss harvesting process is automated, making it more efficient and cost-effective than traditional methods that require manual intervention. For example, an investor using direct indexing may be able to sell a losing stock and replace it with a similar stock, effectively maintaining their desired market exposure while realizing a tax loss that can be used to offset capital gains.
Social screens are filters applied to potential investments based on various ethical, social, and environmental criteria. In direct indexing, investors can use social screens to tailor their portfolios to align with their personal values and beliefs. This allows for a more customized investment experience and can help investors avoid companies that may not meet their ethical standards. For instance, an investor who is passionate about environmental sustainability can use social screens to exclude companies with poor environmental records while focusing on those that prioritize eco-friendly practices.
Direct indexing offers investors a unique combination of tax efficiency through automated tax loss harvesting and the ability to create a personalized investment portfolio using social screens. By considering direct indexing as a potential investment strategy, investors can better align their financial goals with their personal values and beliefs. As with any investment decision, it is important to seek professional advice to ensure that the chosen strategy is appropriate for one's individual financial situation.
Which Equity Investment Style Fits Your Financial Goals?
When it comes to equity investing styles, the strategy you use will depend on your unique financial goals, risk tolerance, age, and a number of other factors. It’s also important to allow your style(s) to change over time as your overall portfolio objectives evolve.
We can work with you to achieve a full picture of your situation and design a balanced portfolio based on strategies that align with your goals. Reach out to us today and book an appointment here.