Concentrated Stock Positions: Managing the RiskJanuary 23, 2017
When managing the risk associated with a concentrated stock position, there are a few strategies to choose from - selling and diversifying, rebalancing your portfolio and more.
A fundamental principle of investing is to not put all of your eggs in one basket. Diversification reduces your portfolio’s overall investment risk. Despite your best efforts, however, it’s easy to end up with concentrated stock positions. Perhaps you exercised stock options, accumulated stock as part of your compensation, inherited stock or received stock in connection with a merger or acquisition. Or maybe certain stocks simply outperformed other investments and now represent a disproportionate share of your portfolio.
The right strategy for managing the risk associated with a concentrated stock position depends on your particular circumstances as well as your tolerance for risk. Here are some options to consider.
Sell and Diversify
The simplest approach is to sell some or all of your shares and use the proceeds to diversify your portfolio. But this may not be a workable solution if, for example, you’re unwilling to pay the resulting capital gains taxes or if Securities and Exchange Commission rules regarding restricted stock and insider trading limit how much (and when) you can sell. Or perhaps you want to hang on to the stock because it’s performing well or for sentimental reasons.
If you’re concerned about the tax bite, consider deferring the gain by selling the stock gradually over time or trading it for shares in an exchange fund. Or, if you’re charitably inclined, you might contribute the stock to a charitable remainder trust, which can sell the shares tax-free, reinvest the proceeds and provide you with tax deductions and an income stream.
Consider Alternative Strategies
If you are unwilling or unable to sell the stock, consider rebalancing your portfolio by buying additional securities. You may even be able to borrow the necessary funds, using the stock as collateral.
Another option, if you keep the stock, is to use one of several hedging strategies to mitigate the risk. For example, to protect yourself against the risk of loss in the event the stock’s price drops, you might purchase a put option that gives you the right to sell your shares at a predetermined price.
Find the Right Mix
If you’re exploring options for dealing with a concentrated stock position, or need help weighing the costs and risks associated with these and other diversification strategies, contact us.