Tax-Efficient Portfolio Management

Tax-Efficient Portfolio Management

Executive summary

The project is about tax-efficient portfolio management. We discuss some common strategies used to increase the tax efficiency of a portfolio. After finding some challenges, we create an optimization model to compute the efficient frontiers for the different optimization frameworks. In further research, we are inclined to focus on the maximization of the investor’s utility function. We also add some stochastic components to the optimization model and substitute deterministic returns for taxable account and TDA by randomly generated.

Table of contents

1. Introduction 3

1.1 Definition 3

1.2 Examples of different strategies 3

1.3 Common Strategies 4

1.3.1 Strategies in white paper 4

1.3.2 MIP model 5

2. Optimization Approach 9

2.1 A simple example of allocation between Taxable Account and TDA 9

2.2 Optimization Model 10

3. Further Research 13

4. Conclusion 14

Table 1: Security and account data in example 2.1……………………………………… 9

Table 2 Pretax/After tax Principal Value of each account…………………………...…. 12

Figure 1: Efficient frontier of each approach………………………………………….... 12

1. Introduction

1.1 Definition

Tax-efficient portfolio management is for a taxable investor to use the proper strategy to find the optimal trade-off, decrease the portfolio risk and gain the maximum return. Active tax management is not only just realizing losses; it is also trade-off between risk, return, and taxes whenever an investment decision is made and whenever assets go through a transition. The more that an investment relies on investment income to generate a return, the less tax-efficient it is to the investor. That is the investor should try to gain the return from the change in its price to be tax-efficient.

Pre-tax and after-tax returns could be significantly different. If a taxable investor ignores what the tax matters in portfolio construction, it could lead to the extremely...