A tax strategy that held $2 billion four years ago now holds more than $170 billion. They are called tax-aware long-short strategies, and what they do is follow a stock index with one hand while manufacturing capital losses with the other — losses the investor then uses to cancel the tax owed on gains made somewhere else entirely. The figure is from Tax Alpha Insider, reported by CNBC.
Eighty-five times in four years is not a performance number. No fund returned that. The money arrived because of what the product does to a tax bill, and the tax bills got large for reasons everybody can name: three straight years of double-digit gains, a wave of public offerings, founders sitting on the proceeds of a sale, executives holding stock they cannot sell without handing over a slice. A very large quantity of unrealised gain went looking for somewhere to sit. But there was a second appetite, on the other side of the table. The firms that were once well paid for assembling portfolios have watched that work get automated and cheapened, first by index funds, then by direct indexing, then by software that does it for a few basis points. A long-short position wrapped around a tax calculation is not something a cheap platform sells. CNBC says it plainly: as other strategies get commoditized, the complex ones still command hefty fees and pull in new clients. What grew is the product the industry could still charge for.
Which does not make it empty, and this is where the arithmetic gets uncomfortable for the cynical reading. Bob Casey, who runs Santa Barbara Management and advises family offices, gives the example: a $1 million portfolio can throw off $250,000 of capital losses in its first year, and for a California investor those losses can be worth as much as $137,500 against short-term gains. That is serious money on a modest account, and it is not a trick of presentation. The same example carries the limit, though. The losses shrink in the years after.
Treasury has noticed the shape of it. At a Wall Street Tax Association seminar earlier this summer, officials warned against aggressive planning built on products designed to generate losses. They did not name these funds. They named two neighbours instead — a pair of adjacent structures that do something similar by other means. One official, according to two people in the room who described the remarks to CNBC, said: "We're not going to let sophisticated abusive tax structuring become a runaway train." Tax attorneys quoted alongside that warning say the bigger problem is simpler, which is that a lot of the money arriving does not understand what it bought.
The eighty-five-fold number measures two things, and investment skill is not either of them. It measures how much untaxed gain has piled up in American portfolios over three good years. And it measures what somebody will still pay to put the bill off.
What grew is the product the industry could still charge for.
