If you are like most Americans, you feel less secure about the U.S. economy. Certainly, this is justified. While we may be technically out of the recession, our dependence on foreign oil, behemoth deficits, and the weak dollar are all fundamental threats to our national fiscal health and our investment marketplace that are not going away anytime soon. For this reason, it is crucial that savvy investors, including physicians, learn from the past two years and adjust their investment behavior accordingly. This article touches on a few thoughts in this arena.
Investment Theory for Doctors
Most savvy doctor investors understand that portfolio diversification is a key consideration to reducing some of the risk of loss in a portfolio. In historically volatile markets, mitigation of loss is not a luxury – it is a necessity. Though most savvy investors who thought they were “adequately diversified” also lost almost half of their portfolio over the last two years, there is an explanation. Most investors were diversified “within” the stock market with holdings in various sectors. What these investors suffered was “market risk.” As the entire market came crashing down, so did all investors within the market.
What many experienced investors don’t understand is that diversification need not be limited to securities like traditional stock and bond investments or bank deposits. Proper diversification, especially in a highly volatile market like the one we are experiencing today, must also be across investment classes and not just within a class (like securities or real estate). A balance of domestic and foreign securities, real estate, small businesses, commodities, and other alternative investments would prove to be much less risky than holding the majority of your investments in real estate and securities (which is what most doctors do).
Since most doctors who contact us are either very successful already and want to fine tune their planning or want to know the secrets of the more financially successful, it may not come as a surprise that many of our physician clients have taken a more active interest in surgery centers, medical office buildings and other healthcare related real estate. This strategy apparently contradicts the idea of achieving portfolio diversification by avoiding any investments within the healthcare arena. One strategy of portfolio diversification for doctors is to avoid all healthcare related investments. The theory is that doctors already have so much of their income related to healthcare that they should not invest in healthcare related investments. Unless a doctor has a very good reason to think that a particular company will excel in its arena, this theory suggests that doctors typically avoid healthcare stocks. For doctors who have the ability to personally influence the success of a surgery center or MediSpa, this is obviously an attractive investment.
For those doctors who can’t build or participate in surgery centers or other profitable healthcare investments, a popular investment strategy is to take advantage of different investment programs that are not traded on a public exchange like the New York Stock Exchange (NYSE). Non-Traded Real Estate Investment Trusts, Leasing Funds and Oil & Gas Drilling programs are a few examples. As with any investment, there are pros and cons for each type of offering.
Given recent market conditions, many physician investors have been attracted to non-traded programs because they offer a certain level of stability. Most of these programs are sold to investors at a flat price, for example $10 per share, during the offering period. An advantage to these programs is that their performance is not correlated with any particular market or index, making them an additional form of diversification. Holding non-correlated offerings can help reduce the “volatility rollercoaster” of a traditional portfolio. They should be an additional allocation in your portfolio, not a substitute for proper allocation.
Another significant benefit for physicians in the higher income tax brackets (which are sure to increase as government bailouts and the upcoming budget ranges in the multiple trillions) is the potential tax benefit an alternative program can offer. Some programs offer tax deductions on the initial investment. Others pay tax efficient dividends. Some programs offer both. For example, there are Oil & Gas Drilling programs that offer tax deductions on the initial investment due to intangible drilling costs AND tax deductions on the program’s cash flow due to depreciation & depletion allowances. Real Estate Investment Trusts’ & Leasing Funds’ dividends are often only partly taxable to the investor. These tax efficiencies vary by program and from year to year.
It is important to note that one of the advantages of a non-traded offering is also a disadvantage. There is typically no market for shares of these programs. As an investor, you are expected to hang on to the security for the life of the investment – which can be as long as 4 to 10 years. This can make your investment relatively illiquid. In addition, these programs are not without risk. You could invest in an oil and gas drilling program that finds no oil. Sure you will get a deduction, but you may not get much of the initial money back. Like any other investment class, some offerings are more aggressive than others, and none make any guarantee about future performance.
There has never been a better time to focus on investment risk management and tax reduction planning. For physician investors seeking ways to diversify traditional stock and bond portfolios and reduce portfolio volatility while possibly reducing unnecessary taxes, non-traded investments are an attractive alternative. Please contact a financial advisor to see if alternative investments or other planning strategies might reduce your investment risk, reduce your taxes by $5,000 to $500,000 annually and increase the total after tax return of your portfolio.
Jason O’Dell, CWM, is a founder of O’Dell Jarvis Mandell (www.ojmgroup.com) and author of “Investing Secrets for Physicians.” David Mandell, JD, MBA, is the author of nine books, including “For Doctors Only: A Guide to Working Less and Building More.” Kim Renners, CPA (inactive), MBA, is the Director of Wealth Management for OJM Group. Sign up for a free e-newsletter on Advanced Asset Protection, Tax and Investing at www.ojmgroup.com. Contact us directly at firstname.lastname@example.org or 877-656-4362. This article contains general information that is not suitable for everyone. The information contained herein should not be construed as personalized advice.