Saturday, October 27, 2012

Taxing Start for Brokers

Providing cost-basis figures for investors’ 1099B forms is proving a tough test for Wall Street. Are corrections the “new normal?"

U.S. brokers’ reporting of the cost-basis for their clients’ investments isn’t going as smoothly as hoped.

A new study by the financial-services analysts at consulting group Celent found that some brokers reported “significant challenges with getting all of the data together–between books and records, cost basis reporting systems, and tax reporting systems–to put out a 1099-B” by February 15, 2012, so their clients could file their taxes with the Internal Revenue Service. It noted that many firms had to issue corrected 1099-Bs due to wash sales or returns of capital that took place in January 2012, changing the cost basis of stocks purchased in 2011. It also concludes that receiving a corrected 1099-B report could become “the new norm” for investors and traders. The Celent report was based on interviews with 50 broker-dealers, mutual funds, and other intermediaries in the reporting process.

We’ve been writing about cost-basis reporting for a while. Investors and traders blamed the difficulty of gathering the data when it was discovered they were vastly underreporting their capital gains. The government put the onus on brokers to collect the data. That became law in 2008 as part of the Emergency Economic Stabilization Act. Phase I kicked off on Jan. 1, 2011, for stocks purchased after that date. Phase II went into effect the next New Year’s Day, and extended the requirement to mutual-fund investments and dividend-reinvestment plans. Phase III, which affects options and fixed-income transactions, was supposed to start this January but has been put off for a year to try to correct previous problems and further prepare for possible new ones.

Anyone who received a 1099-B from a broker this past February saw a reformatted form, which caused some confusion since it only reported the cost basis of stocks purchased and sold during 2011.

Wash sales, which occur when a trader sells a financial instrument at a loss, then buys it back within 30 days, can be completed in the next calendar year. The goal is to cancel the tax write-off of the potential loss. They’re tricky, though, because IRS regulations define them not simply as selling a stock at a loss and buying it back within the wash sale period. To get the benefit the purchase of a stock or option doesn’t have to be exactly the same; it needs to be substantially the same.

If, for example, you sell some Citigroup (ticker: C) stock at a loss, then buy Bank of America (BAC) during the wash-sale period, your capital loss on the Citibank sale is erased. Brokers, however, are required to report wash sales only on identical instruments–it’s up to you to determine whether wash sales have occurred. This can get even more complicated if your sale and purchase took place at different brokers.

And who will define wash sales on bonds? That could be more confusing, given the complexity of that market.

A major concern among participants in the brokerage industry is that regulations were released with very little time left for their implementation. Celent’s report says, “As such, many intermediaries began testing and launching at the same time.”

The delay in implementing cost-basis reporting for options and fixed income for a year should, in theory, allow brokers to work out the kinks, but that will depend on the timing of the publication of the final regulations for these investments.

We found some helpful information about the whole issue from Robert Green, a CPA who focuses on traders. His Website ( includes an education center, which features blog posts and Webinars on the subject. The Celent report on cost-basis readiness is available on Scivantage’s Website. The firm makes accounting software for brokers, funds and investors.

WE’VE GOTTEN A FEW worried messages from foreign investors who claim U.S. online brokers are cutting them off from local operations. An Australian reader tells us TD Ameritrade informed him it will shut its virtual doors Down Under at the end of this year, while a Belgian investor says the firm is also shutting down in Italy and Belgium. They say the firm is asking them to take their business elsewhere. TD Ameritrade confirmed the closings and said in an e-mail it regretted the “angst and inconvenience” it caused some customers. The “decision was not made lightly,” it said, but will allow it to reallocate resources elsewhere.

Published in Barron’s, October 22, 2012. 

Posted by twcarey on 10/27 at 04:12 PM
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Saturday, October 13, 2012

How Daring Are You?

A new site offers a portfolio based on your stomach for losses. Figuring your “desperation” amount.

Many sites and services will assist you in building a stock portfolio—some more successfully than others. A promising new one, Riskalyze, was launched recently with unique features that are worth a look. It’s free, which is the kind of financial risk we like.

Riskalyze ( helps you construct your “risk fingerprint.” You start by entering the approximate size of your portfolio, as well as your “desperation amount,” the bottom-line figure that would, if you went below it, force you to make some uncomfortable life changes. Let’s say your portfolio totals $500,000 and your desperation amount is $250,000. You’re also asked a series of questions that aim to quantify your attitude toward risk, such as, What would you do if your portfolio notched a gain of 10% or a loss of 8%? Will you take the straight gain or loss, or flip a coin, hoping for a larger gain but knowing it might result in a larger loss?

The questions are interesting and result in your being assigned a risk number. My number was 36, which suggests a low to medium amount of risk-taking on a scale of about 20 to 90.

Once your risk number is determined, you can choose to build a portfolio based on a handful of ETFs, or one that searches across a database comprising 38,000 U.S.-based stocks, ETFs, and mutual funds. The portfolio has a 95% probability of staying within your risk-tolerance range over the coming six months. To achieve diversification, the algorithm limits a single stock or ETF to a maximum 15% of your portfolio.

The portfolios are created using Modern Portfolio Theory, which posits that investors can maximize return for a given amount of risk. Market performance and volatility calculations are generated by a capital-asset-pricing model. You can put some high-level restrictions on the portfolios, like excluding mutual funds, or you can replace the recommended investments with others that you already hold.

You can use all or part of the resulting portfolio; if you mark a position as “invested,” Riskalyze then monitors it and lets you know when to rebalance to control the risk level. You get updates every other week.

At present, implementing a Riskalyze portfolio recommendation involves some manual labor. Or you can find an advisor through the Riskalyze site who will do the work for you. This site seems ripe for a partnership with an online brokerage.

OptionsHouse ( recently agreed to license the Prodigio ( back-testing platform, which was available through thinkorswim prior to the electronic broker’s takeover by TD Ameritrade (ticker: AMTD). Prodigio was a separate company that operated under the thinkorswim banner, but Prodigio parted ways with TD Ameritrade in June. George Ruhana, OptionsHouse’s CEO, says, “We will be Prodigio’s exclusive partner, and the service will hook up to our trading engine.” Integrating the downloadable Prodigio platform into Options-House’s Web-based platform could be a challenge, but Ruhana assures us it will be available in a few months.

We raved about Prodigio when it was first introduced. Among its features are strategy back-testing, pivot studies (often used in foreign-exchange trading), pairs trading, and a complete charting package. Prodigio is capable of helping traders develop and test strategies, and then sets them up to trade automatically. Ruhana wants to add options strategies to the current mix. We’ll let you know once OptionsHouse has Prodigio up and running.

R.I.P. AVALANNA: IT WAS WITH great sorrow that we learned of the passing of Avalanna Routh, on Sept. 26. Avalanna was the 6-year-old daughter of Cameron Routh, a vice president at Scivantage ( who has advised us over the years about the tax consequences of trades. Avalanna was diagnosed with a rare form of brain cancer prior to her first birthday, and she beat all the odds to survive for so long. The Routh family continues to work for a cure; check out their campaign at

Published in Barron’s, October 8, 2012. 

Posted by twcarey on 10/13 at 04:10 PM
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