Harvesting Losses Without Losing Position: Understanding Wash Sales and Correlated Stock Strategies
Schedule a Consultation
If you are considering realizing capital losses or adjusting your portfolio to improve tax efficiency, I can help you understand how to structure transactions within the law while preserving your market exposure.
Contact MeInvestors often look for ways to capture tax benefits from market volatility. One of the most effective tools is tax loss harvesting, the sale of a security at a loss to offset capital gains. However, the Internal Revenue Code limits how and when these losses can be deducted. The key limitation is the wash sale rule, found under Internal Revenue Code §1091.
What Is a Wash Sale?
A wash sale occurs when a taxpayer sells or trades stock or securities at a loss and, within 30 days before or after the sale, acquires a substantially identical stock or security. The IRS disallows the loss for tax purposes and adds the disallowed amount to the cost basis of the newly acquired shares. This rule exists to prevent taxpayers from creating artificial losses while maintaining essentially the same investment position. See Treasury Regulation §1.1091-1 for examples of transactions subject to these provisions.
How to Stay Invested: Using Correlated Securities
Investors who wish to realize a loss while remaining invested in a similar asset class often turn to correlated securities. These securities are not identical but tend to move together in the market. Correlation is typically measured using historical daily or weekly returns. A correlation coefficient close to +1 indicates that two securities tend to move in tandem. The data below reflects approximate three year correlations, based on adjusted closing prices obtained from Yahoo Finance and Bloomberg between October 2022 and October 2025.
Fifteen Common Examples of Substitution Strategies
| Sold Position | Replacement Candidate | 3 Year Correlation | Why It Works |
|---|---|---|---|
| SPY | VOO | 0.999 | Both track the S&P 500 Index with different fund sponsors and share structures. |
| QQQ | VGT or XLK | 0.94 | Significant overlap in major technology holdings but with distinct index methodologies. |
| XLE | VDE | 0.98 | Energy sector exposure with similar composition and weighting. |
| IWM | VTWO | 0.97 | Both represent small cap U.S. equities with different fund issuers. |
| AAPL | MSFT | 0.88 | Large technology firms responding to similar market and interest rate factors. |
| TSLA | F or RIVN | 0.76 | Automotive and EV sector correlation influenced by the same industry trends. |
| XLF | VFH | 0.96 | Financial sector ETFs following different indexes with similar performance. |
| AMZN | GOOGL | 0.86 | Large cap technology firms with strong exposure to digital advertising and cloud computing. |
| JNJ | PG | 0.83 | Defensive consumer and healthcare exposure with steady dividend characteristics. |
| KO | PEP | 0.94 | Highly correlated beverage producers with global market reach. |
| XLI | VIS | 0.95 | Industrial ETFs tracking similar underlying sectors through different indexes. |
| XLV | VHT | 0.98 | Healthcare ETFs with different fund sponsors and rebalancing policies. |
| NVDA | AMD | 0.85 | Semiconductor manufacturers with cyclical and innovation driven correlation. |
| XLB | VAW | 0.96 | Materials sector ETFs using similar yet distinct index methodologies. |
| EFA | VEA | 0.99 | Developed market international equities with different issuers and share structures. |
Cryptocurrency and Wash Sales
Currently, the wash sale rule under §1091 applies to stock and securities, but not to digital assets. The IRS classifies cryptocurrency as property under IRS Notice 2014-21. As a result, crypto investors may sell and repurchase the same asset without triggering disallowance. Proposed legislation such as the Build Back Better Act (H.R. 5376) and the Senate Finance Committee’s Digital Asset Reporting Proposal (2024) have suggested expanding wash sale treatment to include digital assets. Taxpayers should monitor future guidance closely.
Summary
Tax loss harvesting can provide a measurable advantage when executed with discipline and proper documentation. Correlated substitutes may allow investors to realize losses while maintaining exposure to market movements, but correlation is not the same as identity. Each position must be evaluated based on its composition, issuer, and volatility. The IRS does not define “substantially identical” with precision, so accurate recordkeeping and professional guidance remain essential.
A careful and data driven approach, supported by statistical correlation and regular monitoring, can help investors optimize after tax results while complying with the wash sale rules. If you are reviewing your portfolio for tax loss opportunities or planning year end strategies, Contact Me for personalized assistance and strategy development.
