Schwab to Launch Tax-Aware Long-Short Strategy Amid Rising Investor Demand

Charles Schwab plans to launch a tax-aware long-short strategy, CEO Rick Wurster said on the broker's earnings call. Schwab's quarterly earnings released on Thursday showed margin loan balances increased 14% quarter-over-quarter to $187.9 billion. Those balances included $60.7 billion related to tax-aware long-short strategies, which many registered investment advisors use. Tax Alpha Insider estimated in September that total assets in these strategies rose from $2 billion in 2022 to more than $170 billion this year.

Wurster outlined the plan after UBS analyst Mike Brown asked whether client demand created an opportunity for Schwab to launch a proprietary offering. Wurster said Schwab already has a direct indexing capability that has performed well in generating tax benefits and delivering for clients. Wurster said he expects Schwab to extend that capability to long-short strategies. Wurster described the planned offering as another revenue opportunity and a way to deliver sustainable strategies that are operationally and financially manageable over the longer term. Wurster provided few details and no launch timeline. Wurster said Schwab is working on the offering and will provide updates on future earnings calls.

Wealthy investors are seeking more ways to shield capital gains from taxes after several years of large stock-market gains. Business owners selling businesses, executives with substantial stock compensation and employees of companies that recently went public face similar tax considerations. The products offer brokers and investment advisors relatively high fees and opportunities to attract wealthy clients.

Wealthy investors already use direct indexing on platforms including Schwab to pair stock gains and losses tax-efficiently. Advisor research platform Kitces said standard tax-loss harvesting generates fewer available losses over time. Kitces explained that rising markets eventually lift most diversified portfolio holdings sufficiently above their cost basis that subsequent downturns do not generate taxable losses. Kitces said positions that continue falling can generate only finite losses because market values and cost bases cannot fall below zero.

Tax-aware long-short strategies add leverage to both the long and short sides of an existing portfolio. Investors buy more positions, increasing the potential losses available to harvest. Kitces said this approach allows the portfolio to remain economically neutral. Kitces said short positions can theoretically generate unlimited losses as markets rise, making these portfolios less likely than standard long-only portfolios to exhaust available losses.

Tax Alpha Insider's Brent Sullivan said on Thursday that advisors will have many questions about Schwab's products. Sullivan said the products should not be called funds, a term Brown used in the earnings-call question. Sullivan said a Schwab product could potentially lower the typical minimum assets-under-management requirement meaningfully. Sullivan said whether the products would be available only to Schwab advisors and only on Schwab's platform remains an open question.

The government has taken a more aggressive stance toward tax avoidance and some, but not all, strategies designed to generate tax benefits for wealthy investors. Treasury Secretary Scott Bessent and the IRS recently issued a notice addressing sophisticated ETF strategies used to shield capital gains from taxation. The notice also expressed interest in tax-aware strategies typically structured as partnerships or separately managed accounts. However, law firm Ropes & Gray said the notice made clear that being tax-aware is not itself a cause for concern. Ropes & Gray also noted that year-end tax-loss harvesting is a well-established practice.