A lot of Wealth in one Stock?

Over the years, I’ve seen a LOT of wealth in single holdings. We call these concentrated positions. Questions always arise around how best to treat those assets within a financial plan. The traditional guidance is to reduce concentrations over 5% of your liquid net worth, but the answer isn’t always that simple. Let’s peel back the layers this planning opportunity.

How was the position acquired?

• Equity Compensation
• This is a very common situation. Employees are rewarded Long Term Incentive Compensation by employers through stock options, RSUs, or other arrangements and accumulate large company holdings as part of their compensation. Generally, for high performing companies and individuals with long tenures, this leads to large positions at a low-cost basis.

• Inheritance
• It could be that a position is acquired through inheritance. Depending how estate planning was done by the decedent, those decision will impact the taxability of that asset (assuming it’s held outside of a qualified account):
• If the stock was held in an individual brokerage account, the cost basis of that holding would be ‘stepped up’ based on the value of the stock on the date of death. This serves as a ‘tax reset.’
• If the stock came through an irrevocable trust, the cost basis would not be stepped up.  Interestingly, there are securities that still have cost basis from the early 1900’s that have been passed down through these types of trusts.

• A great Investment!
• Perhaps you had the forethought to buy Apple, Amazon, Tesla, or another massive company way back when and rode the wave. In this case, assuming the position is held is a taxable account, you will have a low cost basis.

In all of these scenarios, it’s common to have some attachment to the holding. After all, it has played a big role in wealth creation for you!

What is the stock and its characteristics?

Not all businesses are the same. Having a concentration in a blue-chip dividend stock will be different than a concentration in a high-flying growth stock. For example, a company that pays a healthy dividend can provide cash flow that can go towards your goals. Understanding the company and stock can influence the decisions you might make. Further, it is important to understand the stock and its historic volatility. Some stocks can routinely move +/- 1%/ day, others that is uncommon. How an investor reacts to and follows a stock needs to be examined in context.

*Don’t forget! * Companies can cut dividends and volatility profiles can change. Enron and WorldCom are cautionary tales of this.

What are your goals? What role does the stock have in realizing them?

In summary, it is critical to focus on your financial plan and not the stock. The day-to-day moves in a stock are fluid and somewhat unpredictable, unlike your goals. It is important to stress test your goals against potential drawdowns of the stock. Can your goals be accomplished if the stock drops 10%?, 20%?, 50%? and not recover for a period of years? If the answer is no, then creating an exit strategy should be a priority. Conversely, if the answer is yes, it could make sense to hold onto the position.

In situations where the stock has a role towards funding a goal in your plan, it is important to be mindful of the time horizon for that goal. If the goal is short-term (0-3 years) volatility should be reducing in anticipation of funding the goal. Whereas a longer horizon could allow for more price movement and recovery for a decline.

What can I do?

• Just Sell it!
• This is the simplest strategy and can be the best. It is important to understand tax implications of a sale, but at the end of the day ‘nobody goes broke by taking a gain.’

• Gift it
• For those that are charitably inclined, gifting appreciated securities is a great way to reduce risk, meet philanthropic goals, and save on taxes. By gifting appreciated stock, you will get a deduction for the value of the stock and will not have to pay capital gains tax. In effect, this is like a double tax benefit. This applies to non-qualified taxable accounts.
• It is also an option to gift it to a family member; gifting to kids or grandkids, in particular, could open the door to some tax benefits. This requires some mindful long-term planning as it could have a material impact on college aid down the line.

• Hedge it
• Through the use of options contracts, you can implement strategies that can be used to narrow volatility. Some benefits of these strategies may include generating income (beyond what the stock does), creating a floor for how low the combined stock and option strategy can go, or creating a floor and ceiling that lowers overall volatility and hedging cost. Hedging can be a useful tool, but it does have downsides, including hedging costs and additional complexity. As a side note, Mark Cuban used these strategies in 2000 to hedge his Yahoo stock.*

• Keep it
• Nothing says you need to do anything with these large positions at all. Many examples exist of people that let it ride and ended up extremely well off. This strategy is common with entrepreneurs and early adopters. They might have started the company, played a material role in its success, or are passionate about the product or service the company provides.

Closing thoughts

The goal with financial planning is to create the highest likelihood of success for clients and families. Having a concentrated stock position, when compared to a diversified portfolio, could have a range of outcomes. That is a statistical reality. However, the definition of success in a plan (your goals) may not require an ideal performance outcome from a concentrated stock. Finding that balance point is not easy when factoring in goals, taxes, growth desires, and emotional connections. If you find yourself looking for help finding that balance, we would be honored to discuss your situation.

* Source: https://finance.yahoo.com/news/whole-market-cratered-protected-mark-103000153.html

DISCLOSURE: The information contained herein has been obtained from sources believed to be reliable but cannot be guaranteed for accuracy. Balanced Life Planning is a registered investment adviser. Registration does not imply a certain level of skill or training. Information presented is for educational purposes only, are subject to change from time to time and does not intend to make an offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies. Investments involve risk and unless otherwise stated, are not guaranteed. Be sure to first consult with a qualified financial adviser and/or tax professional before implementing any strategy discussed herein. Past performance is not indicative of future performance.