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New Tax Laws Won't Make or Break SMAs


SMA players predict that the altered dividend and capital gains tax rates may result in some minor tweaking of investment strategies, but they don't expect any dramatic changes.

When President George Bush signed into law the Tax Relief Reconciliation Act on May 28, reaction was mixed. But whatever the long-term impact of the new tax laws on the economy, one thing is certain today. Whenever taxes are lowered on investment income, that's a great thing for investors. Still, though the players in the separately managed account industry agree that there won't be dramatic changes, and that there will be no investor rush to the asset class, they do foresee some extra perks to the reduced rates on dividends and capital gains.

"If investors have gains, this is the time to take them," said Leonard Reinhart, founder of Malvern, Pa.-based Lockwood Financial, now under the Bank of New York umbrella. "Taxes are the single biggest drain on investments, and we will make adjustments to make [the changes] more attractive. No other investment vehicle enables us to take advantage of the tax law changes like SMAs."

"There will be products that evolve to figure out how to take advantage of the differentials in the tax rates," said David Stein, chief investment officer at Seattle-based investment manager Parametric Portfolio Associates, which was recently acquired by Eaton Vance. "Historically, there are always people who will manipulate the process to take advantage of differentials. But it's not going

to be a big deal right

now and won't have a massive impact."

In general terms, the tax changes make equities more appealing than bonds. And they make value stocks, which typically pay out dividends, more alluring than growth. "The market may shift a little toward dividend-paying stocks and interest in annuities may be affected, but it will be a small turn of the dial," said Jack Sharry, president of Phoenix Investment Partners, based in Hartford, Conn.

Focus on Dividends

Added Allan Rudnick, chief investment officer of Los Angeles-based SMA manager Kayne Anderson Rudnick, "For us, there is going to be absolutely no change. We have always focused on dividends. But investors and financial planners will be more attuned to portfolios that have dividends as a focus, and money managers in general will consider dividends more meaningful than they have in the past."

Nonetheless, most money managers and financial advisers surveyed in the SMA category cautioned that on their own, the altered tax rates shouldn't be the deciding factor for investment decisions. Instead, industry players said that the reduced rates provide a starting point for new entrants or for those clients rebalancing a portfolio and shifting assets around to help them meet their long-term asset allocation objectives.

"We are not tactical asset allocators, meaning we do not advise clients to switch in and out of asset classes unless they become over- or under-weighted versus their target allocation, or if they have a change in their financial situation or lifestyle," said investment consultant Kirk Lynch, who heads Denver-based CBIZ's investment advisory practice. He noted that if he has a client over-weighted in growth stocks, depending on the rest of the allocation, he would consider reallocating funds from growth to value. But this shift, he pointed out, would create a taxable income for the client, where before there may not have been one.

But moving a client from a heavy stock position into bonds at this time should be done with hesitation. "Now is not a good time to reallocate to bonds," Rudnick said. "The decision should not be tied to market timing but based on long-term goals, risk tolerance and age." What's more, bonds have become overvalued, said CFP George Luciani, president of Capital Planning Advisory Group in Yardley, Pa. Indeed, selling out of equity positions at the bottom of a market to purchase expensive bonds goes against the conventional investment wisdom of buying low, selling high.

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