Weighing a CD

To the Editor:
In the article “A Time for Time Deposits” (by Gilkeson, Porter and Smith, December 2010 AAII Journal), the authors state that investors should use their marginal tax rate instead of their average tax rate. Why not use the effective tax rate instead? Using the effective tax rate would allow investors to adjust for their unique circumstances—presuming minimal changes between years. If there is a big change, this obviously would not apply, and investors would use the marginal rate unless they could effectively determine their new effective tax rate.

Chuck Sarahan

James Gilkeson Responds:
When making a single investment decision—in this case, deciding whether to invest in a bank CD or a same-maturity U.S. Treasury security—the proper question to ask is what the income (net, after all costs and benefits, including taxes) from each alternative will be. For taxable income (the CD interest), this net or marginal income will be measured using the marginal tax rate paid by the investor, not the average tax rate, because additional dollars of income are taxed at the marginal rate, not the average rate.

If I understand the idea of “effective tax rate” properly, it takes into account tax benefits (exclusions/deductions) that might be lost/gained as income changes. That’s good. All costs and benefits should be considered. But they should still be considered at the margin, not the average. Note that ideally one would take all costs and benefits into account. For example, holding a CD at an institution might qualify an investor for free services such as checks and ATM privileges.

Commodities and Investment Style

To the Editor:
I greatly enjoyed the article “Is Now the Time to Add Commodities?” by Conover, Jensen, Johnson and Mercer [December 2010 AAII Journal] and hope to see more of this kind of statistical comparison of investing styles in the Journal. The article shows that a 15% commodity exposure is beneficial during periods when Federal Reserve rates are increasing (“restrictive”), regardless of investment style (value, growth, small, large or momentum.) One thing missing in the article was a precise definition

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