Yes, you can increase returns this way, but it’s important to note that the reason is because you’re taking more risk, not because of some special feature of traditional vs Roth IRAs. Let’s say for simplicity your bonds earn nothing and your stocks will either double or half over some holding period and you hold $100 in each initially:
Case 1: low risk in traditional
tIRA: bonds, final value $100
Roth: stocks, final value $200 (or $50 if unlucky)
Total after tax value (30% tax rate)
1a) up market = $100*(1-30%)+$200 = $270
1b) down market = $100*(1-30%) + $50 = $120
Case 2: high risk in traditional
tIRA: stocks, final value $200 (or $50 if unlucky)
Roth: bonds, final value $100
Total after tax value (30% tax rate)
1a) up market = $200*(1-30%)+$100 = $240
1b) down market = $50*(1-30%) + $100 = $135
As you can see, if the market is up, you end up with more money putting the stocks in the Roth (case 1, $270 vs $240), while if the market is down you’ll end up with a more money if you put stocks in the traditional (case 2, $135 vs $120). You took more risk by putting stocks in your Roth, and it either pays off or it doesn’t. That’s not very helpful though, since if you knew which way the market was going, you’d have everything in stocks (or bonds).
Said another way, the difference in risk here is coming from the fact that the asset allocations are not the same in the two cases. With a 30% tax rate, you should think of $100 in a Traditional as only being worth $70, while a $100 Roth is worth the full $100. This is obvious when it comes to withdrawing the money, but people often forget when they’re doing their AA, which is sometimes called tax-adjusted asset allocation and is more correct IMO.
The Roth is “bigger” than a Traditional of the same nominal dollar amount, and so if you put all stocks there, you’re really taking a more risky, stock-heavy AA than if you put them in the traditional (where the Feds will share 30% of the gains or losses), so the returns in the good scenario are just from this mismatch in risk. Explicitly, the $100 starting point of the above example has the following allocations:
Case 1: bonds in Traditional
$100 bonds, worth $70
$100 stocks, worth $100.
59% stocks / 41% bonds, after tax adjusting (out of $170 post tax total)
Case 2: stocks in Traditional
$100 stocks, worth $70
$100 bonds, worth $100
41% stocks / 59% bonds, after adjusting.
So of course Case 1 pays off more in an up market, because it took 20% more stock risk (60/40 vs 40/60). If you tax adjust your AA, you’ll find it doesn’t matter at all what you put where between Roth vs Tradtional.