Gerber and Co., CPAs and Financial Advisors

When the stock market rises or falls, it can be difficult to determine how to adjust your portfolio. Should you leave it alone or take drastic measures? The appropriate answer probably lies somewhere between those two extremes. What you should do is thoroughly review your portfolio. Consider these tips when analyzing your investments:

Take another look at your financial goals. A big move in your portfolio stocks will probably affect your financial goals. Recalculate how much you need to save on an annual basis, based on your investments' current value and a reasonable future rate of return. Be prepared to readjust your goals. For some people, one of the most painful results of market declines is the realization that they may have to delay retirement.

Set an asset allocation strategy for the long term. The most basic investment decision you'll make is how to allocate your portfolio among the various investment categories, such as cash, bonds, and stocks. You want to ensure your portfolio is diversified among a variety of investments, so when one category is declining, hopefully other categories will be increasing or not decreasing as much. To decide how to allocate your portfolio, you'll first need to come to terms with your risk tolerance. Factors like your time horizon for investing and return expectations will also impact your decision. Once you've decided on an asset allocation strategy, you'll need to adjust your current portfolio to get it in line with that allocation.

Thoroughly review each investment in your portfolio and decide whether you should continue to own it. Some stocks may rebound when the market declines, while others may never bounce back. If you think an investment won't rebound or will take a long time to do so, sell it and reinvest in others with better prospects. It's a painful thing to do, since most investors have an aversion to selling at a loss. But it's an important step if you want to make sure your portfolio is on track going forward. Also make sure your remaining investments are all adding diversification benefits to your portfolio. Just because you own a number of investments doesn't mean you are properly diversified. Often, investors keep purchasing investments similar in nature. That doesn't add much in the way of diversification and makes the portfolio difficult to monitor.

Look for investments you'll be comfortable owning for the long term. It's tempting to look for the biggest winners in investments and put your money there. In essence, however, you are chasing yesterday's winners rather than tomorrow's winners. You need to keep in mind that the best performing investment category will change from year to year. A better strategy may be to select a diversified portfolio of investments you'll be comfortable owning for the long term, so you have some money invested in each of the major investment categories.

Use dollar cost averaging to invest.

Pay attention to taxes. Taxes are probably your portfolio's largest expense. Ordinary income taxes on short-term capital gains, interest, and dividends can go as high as 35 percent, while long-term capital gains are taxed at rates not exceeding 15 percent.Using strategies that defer income for as long as possible can make a substantial difference in the ultimate size of your portfolio. Some strategies to consider include utilizing tax-deferred investment vehicles (such as 401(k) plans and individual retirement accounts), minimizing portfolio turnover, selling investments with losses to offset gains, and placing assets generating ordinary income or that you want to trade frequently in your tax-deferred accounts.

And the good news for certain taxpayers* in the two lowest tax brackets (10 percent and 15 percent) is that in 2008-2010, the capital gains rate drops to zero percent, under the Tax Increase Prevention and Reconciliation Act signed by former President George W. Bush. The same preferential treatment will also apply to qualified dividends received through 2010.

Capital gains on investments held for one year or less are generally short-term capital gains, which can be taxed at ordinary income tax rates. For investments held over one year, the maximum long-term capital gains tax rate is 15 percent, or zero percent for certain individuals* in the 10 percent and 15 percent tax brackets during 2008 to 2010. While this is significantly below the maximum ordinary income tax rate of 35 percent, it still takes a significant chunk out of your investment portfolio.

*Note: Under current law, qualified taxpayers in the 10 percent and 15 percent tax brackets pay zero percent long-term capital gains tax in 2008 to 2010. However, certain full-time students under age 24 do not qualify for the zero percent rate under revised Kiddie Tax rules.