Tax Aware
Style Investing and Tax Efficiency: Building a More Tax Efficient Global Equity Portfolio for Australian Investors
May 1, 2018
Topics - Tax Aware Style Investing
Style or factor-based equity strategies have become increasingly popular in recent years, and the styles themselves — such as Value, Momentum and Quality — have been researched and documented for several decades in numerous empirical studies. These studies have been predominantly focused on the expected gross returns of styles; however, for tax-sensitive investors, the critical input for investment decisions are the returns net of transaction costs and taxes. Though transaction costs are a common concern, taxes may have a much greater effect on the net returns received by Australian investors.
This paper evaluates the performance of long-only style-based equity strategies after accounting for these real-world frictions and concludes that style investing — when efficiently implemented in a tax-aware manner — is indeed worth pursuing for Australian investors. We first consider the after-tax returns of single-style strategies and of a naïve mix of single-style strategies. We then assess the tax sensitivity of an integrated multi-style portfolio construction approach. We find that an integrated approach to combining styles may not only improve pre-tax performance, but it can also potentially result in significantly improved after-tax outcomes. Furthermore, the expected after-tax returns of an integrated-style portfolio may be significantly improved via a tax-aware approach that anticipates the tax consequences of portfolio rebalancing decisions.
This document is not intended to, and does not relate specifically to any investment strategy or product that AQR offers. It is being provided merely to provide a framework to assist in the implementation of an investor’s own analysis and an investor’s own view on the topic discussed herein.
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This material is not research and should not be treated as research. This paper does not represent valuation judgments with respect to any financial instrument, issuer, security or sector that may be described or referenced herein and does not represent a formal or official view of AQR. The views expressed reflect the current views as of the date hereof and neither the author nor AQR undertakes to advise you of any changes in the views expressed herein.
The information contained herein is only as current as of the date indicated, and may be superseded by subsequent market events or for other reasons. Charts and graphs provided herein are for illustrative purposes only. The information in this presentation has been developed internally and/or obtained from sources believed to be reliable; however, neither AQR nor the author guarantees the accuracy, adequacy or completeness of such information. Nothing contained herein constitutes investment, legal, tax or other advice nor is it to be relied on in making an investment or other decision. There can be no assurance that an investment strategy will be successful. Historic market trends are not reliable indicators of actual future market behavior or future performance of any particular investment which may differ materially, and should not be relied upon as such. Diversification does not eliminate the risk of experiencing investment losses.
The information in this paper may contain projections or other forward-looking statements regarding future events, targets, forecasts or expectations regarding the strategies described herein, and is only current as of the date indicated. There is no assurance that such events or targets will be achieved, and may be significantly different from that shown here. The information in this document, including statements concerning financial market trends, is based on current market conditions, which will fluctuate and may be superseded by subsequent market events or for other reasons.