How Much Is Too Much?
How much is too much company stock?
First, we need to define ‘too much.’ My definition is a level of exposure where the stock price has a profound impact on your overall financial and life goals.
Second, a reminder that very few individual stocks deliver outsize returns. Going back to 1926, fewer than 4% of individual stocks have accounted for nearly the entire gains of the market.1 Could your company be the next Amazon? Sure. Is that likely? There is a high probability that it is not.
Some of these individual and well-known stocks that have done so well are not without substantial drawdowns in the price of their stock; no pain, no gain. In 2000, Amazon was cut 80%, Apple by 71%, Microsoft by 60% and Google by 56%.2
In the example below, a prospective client has ~ 1/3 of their existing portfolio in Verizon. The plan as it sits today (using reasonable future return assumptions) has a high probability to success (85%.) But what if reality differs from those assumptions?
The portfolio is concentrated enough that a 50% loss in the stock has virtually the same impact as the stock going to zero. And again, a stock price getting cut in half is to be expected at some point in time (see the examples above.) I'll expand more on what 'probability of success' means in a future post.
Source: MoneyGuide Pro
This reality begs the question; what planning can be done to reduce the concentration risk? Yes – it is probable that a compensation plan design was largely out of your hands. For something like unvested restricted stock units, it is what it is.
But vested restricted stock units sitting in a brokerage account? Options available for exercise? Massive company stock exposure in the 401(k) or a deferred compensation plan? This is a personal choice to bet on the outperformance of your company stock (historically, not likely at all) and could be putting your other goals at risk.
If this is the case, you’ve fit my definition of ‘too much.’
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Footnote # 1 ‘Do Stocks Outperform Treasury Bills?’ https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2900447
Footnote #2 ‘Big Winners, Big Drawdowns’ https://seekingalpha.com/article/4000625-big-winners-big-drawdowns
