In this Newsletter
Your Fun Money Portfolio
The stock market has given us some exciting ups and some thrill-dampening downs. To stay on track in volatile times, invest your retirement savings in a diversified portfolio that includes large cap, small cap, and international investments.
However, if you are thinking of breaking away from your asset allocation to make speculative investments—what some call gambling—make sure that you do so only with a small portion of your investment portfolio. A good rule of thumb for this kind of investing is to use no more than 3% to 5% of your total portfolio. We call this your “Fun Money Portfolio.”
It’s a good idea to consider your Fun Money gone for good, and to monitor your performance very closely—daily, if possible. Since it’s common for investors to remember their successes more vividly than their losses, this strategy will help to keep you grounded in reality. Plus, it will come in handy for tax reporting.
Consider your specific trading habits to determine whether to hold speculative investments in your taxable account or in a tax-deferred account, such as an IRA. If you hold your Fun Money Portfolio in a taxable account, you’ll be required to report sales transactions on your tax return. If the value of these riskier holdings does tank, you can deduct up to $3,000 of losses per year against your ordinary income (such as wages and dividends). On the other hand, if you trade often in your speculative portfolio, you may decide to use a portion of your retirement account to ease your paperwork burden. This way, you won’t have to list all of your sales transactions on your tax return, since gains and losses incurred in a tax-deferred account are never taxed.
Consider opening a separate account for your Fun Money Portfolio so that you can truly segregate these funds. Each time you trade individual stocks, you’ll usually pay fees. Use a discount broker or low-cost online broker to keep fees down, and be sure to track the fees for tax purposes. In a taxable account, trading fees can either reduce your gain or increase your loss. For example, if you pay $10 per trade, the $10 to buy a stock increases your cost basis, and the $10 to sell a stock will reduce your sales proceeds.
Have fun with your Fun Money Portfolio, but remember: Don’t let it exceed 5% of your total investments. And keep in mind these three rules for the savvy investor: Save diligently, keep your investment portfolio diversified, and keep your investment costs low.