PORTAX After-Tax Portfolio Analysis

Investor portfolios invariably have multiple year horizons.  While portfolio theory focuses on asset allocation, investors are also interested in timing of cash flows.  This includes funding investments, paying management fees and taxes, meeting planned expenditures, targeting terminal wealth and even inter-generational transfers.   Additionally, there may be time varying investment policies, tax rates, inflation rates and modeling of different economic scenarios.

A basic question is whether a portfolio model that allocates assets on a before-tax basis in the first year and keeps the allocations fixed for subsequent years is sufficient for handling large taxable portfolios.  The answer is that it depends on the complexities of the portfolio and the sophistication of the investor.  In most cases, portfolios require both multi-period, after-tax asset allocation and cash flow analysis to meet investor’s goals.

The graphs on the right show some basic examples of investor spending requirements.  The top graph shows inflation adjusted fixed cash flows for ten years.  The second graph shows spending based on 10% of each year's market value.  The third graph shows funding and spending for a taxable trust.  In all three spending examples, the asset allocation in each year interacts with the planned cash flows.  From the investor’s viewpoint, the interaction may be as basic as selecting portfolio targets that are aggressive enough to fund the cash flows.