Over the years I have worked with several clients who, for various reasons, had accumulated concentrated positions in a single stock. Reasons often include:
- The exercise of stock options via an employer.
- Programs that allow employee discounts in the purchase price of the stock.
- Stock accumulated by early investors or employees in a company, such as was the case with Facebook’s recent IPO.
- Matching in a company sponsored retirement plan in the form of company stock.
- An inheritance or gift.
Often, when I come across these situations the client holds the stock in a taxable account and it has appreciated in value since their acquisition of the shares. Here are a few issues to consider if you’re in a similar situation:
- Any individual stock carries unique risks. With a heavily concentrated position, you carry in inordinate exposure to any downside risk in that stock. A few examples:
- For every Apple or Google, there are stocks like Groupon or Facebook—highly touted IPOs that have lost considerable value since their debut.
- Microsoft shares rose from under a dollar at the end of 1989 and closed 1999 at over $58. The stock has spent most of the time since then between $20 and $30 per share.
- Much of the money lost by investors in Enron was lost by employees who held large percentages of company stock, much of it in their retirement accounts.
- A concentrated stock position can skew the overall asset allocation of your portfolio. This can expose you to more investment risk than you might otherwise intend to take.
- There could be significant accumulated capital gains if the shares are held in a taxable account.
- Taxes on those gains (as well as other future tax rates) are up in the air right now.
- Depending upon your situation, it may make sense to realize some of these gains in 2012. As always you should consult with your tax advisor.
- Any holding that has appreciated nicely can be hard to part with. As tough as this can be, it is vital that you view the stock in terms of its future potential versus its past performance. Using Apple as an example, do you feel that it can continue to replicate it’s amazing past performance into the future?
As you decide on a course of action here are some additional considerations:
- If you hold company stock in your retirement plan there is a special provision for this situation called Net Unrealized Appreciation that might be advantageous for you upon leaving the company.
- Some retirement plans do not allow you to diversify your company stock holdings until age 50. Take a look at your plan to see if you can diversify a concentrated position caused by your company’s matching policies.
- For investors who want to lock in a gain, one tool is the use of stop orders. These come in various types, but, in general, if you set a stop at say $40 per share on a particular stock, the stop order will trigger a market order to sell should the price touch $40. One caution, during the “flash crash” of 2010 many stocks and ETFs triggered stops and then plummeted to extremely low levels (in one case an ETF triggered a stop at $50 and sold at 10 cents per share). The point here is that with a standard stop-loss order a stock can fall well past the stop trigger price in a rapidly moving market before being sold. There are stop orders that will limit where the sale can take place. If you don’t understand stops and similar vehicles, be sure to consult with a financial advisor who does before going this route.
- Appreciated stock holdings can make excellent charitable gifts. Many charities have the capacity to accept investments directly. This can be a great way to reduce a concentrated, highly appreciated stock position. You can generally deduct the full market value to the shares gifted. This allows you to avoid paying capital gains taxes on these shares.
- At some point it might pay for you to “bite the bullet” and realize some of your gains in the name of investment diversification. Avoiding investment losses trumps paying capital gains taxes in my opinion.
- For all of the above be sure to consult with your tax or financial advisor to discuss the pros and cons of any course of action.
Dealing with concentrated stock positions can be a complex situation and often there is more than one right answer. While having a large block of a stock, especially if the stock has appreciated nicely, is a nice problem to have, it is important to manage your position to your best advantage.
Roger Wohlner, CFP®, is a fee-only financial adviser at Asset Strategy Consultants based in Arlington Heights, Ill., where he provides advice to individual clients, retirement plan sponsors, foundations, and endowments. Read more about Roger here.