How to Manage Concentrated Stock Positions

How should I manage my concentrated stock positions?

The phrase “concentrated stock” or “concentrated equity” means that a large amount of your net worth is tied up in a single company. 

Example of a Concentrated Equity

Stocks are partial ownership interests in a company. For example, if your company is worth $10 million dollars and has 100,000 shares, then each share is worth $100. A person with 1,000 shares has $100,000 invested in the company:

1,000 x $100 = $100,000

Owning a concentrated stock could be a big risk to your financial plan. Any stock could go to zero value if the company declares bankruptcy. This is why financial planners recommend diversification–to reduce the risks. 

To find out if you have a concentrated stock (concentrated equity) position, take the value of your largest stock position and divide it by your financial net worth. Generally speaking, if your concentrated stock percentage is more than 20% of your net worth, you have a concentrated stock.

Largest Stock / Net Worth = Concentrated Stock Percentage

An example will help. If you own a home worth $500,000, a 401k worth $500,000 and have 10,000 shares in this company, worth $1,000,000, then you have a concentrated stock position. 

$1,000,000 / $2,000,000 = 50%

However, if you owned 1,000 shares in this company’s stock, then you would have a modestly concentrated stock position:

$100,000 / $1,100,000 = 9.9%

Generally speaking, concentrated equity (concentrated stock) is a way to build wealth. However, it can be risky to hold a concentrated stock, especially for a long time. Sometimes it happens by picking a fast-growing company and holding onto it for a long time. Usually people accumulate concentrated stock by working for a company and being granted stock options, stock units and stock in the company.  As people enter retirement it is usually a good idea to diversify out of concentrated stock and reduce the risks. 

Importantly, concentrated stock is a different risk for very wealthy people than it is for modestly wealthy people. A person who has a lot of wealth may be able afford a concentrated equity position whereas a less wealthy person may not. If you have accumulated enough wealth outside the concentrated stock to be able to maintain your lifestyle, then perhaps owning a concentrated stock is a risk you can afford. However, if your retirement plans would be hurt (or wiped out!) if the stock lost value (or went to zero value!) then you should probably diversify.

Common Ways a Concentrated Stock Position Can Occur

1. You buy a company that you believe has great potential, and then start buying stock in the company because you are excited about its future prospects.
2. An investment bank puts together a portfolio of stocks for your retirement account, and it decides to put all of the money into one type of company due to its bullish performance.
3. You start accumulating shares in a particular company because you like its products and services, and then the company’s share price rises as the sector of the economy that it operates in also experiences growth.
4. Long-Term Employment : You work for a company and receive stock as a bonus because you have been there for a long period of time.
5. Executive Compensation : for eg. the CEO of a company receives shares from the board of directors when she is being paid for her services.

Benefits of concentrated stock:

Below are some of the Benefits of concentrated stock: 

• It is less risky than other stock types.
• The investor has a lot of control over the investment decision making process.
• Income may be distributed on an annual basis.
• It’s easy to track one company news that will affect future performance of your position

There are some disadvantages to owning all your money in one concentrated stock:

1. It’s hard to diversify your portfolio with just one investment – that is why you need Single Stock Diversification Service
2. You don’t have as much flexibility as other people who own more stocks
3. The success or failure of this one business will have an enormous effect on your returns
4. If the company gets into financial trouble, it might take years before they bounce back and produce gains again.

However, this doesn’t mean that everyone should avoid having a concentrated stock. You can use it as one of your holdings, even if you own other stocks. That way you have the benefits without disadvantages.

A good rule is to keep an eye on how much room there is to grow in your company’s profits. If it grows too much, then consider selling some stock so that you diversify your portfolio.

If you want to learn more about how to build a portfolio that’s right for you, then contact us at A&I Wealth Management. We offer individualized consultations and advice. Read more about our Concentrated equity strategies.

More resources for owners of large equity positions

• Should You Use Net Unrealized Appreciation (NUA) in Your 401(k)?
  https://assetsandincome.com/blog/should-you-use-nua-in-your-401k/

• How Automatic Contributions to Investment Accounts Help in Retirement
  https://assetsandincome.com/blog/financial-advice-services/next-generation/how-automatic-contributions-to-investment-accounts-help-in-retirement/

• What is a concentrated stock?
  https://assetsandincome.com/blog/investment-advice/concentrated-equity/concentrated-stock/

FAQ

Q1: What is a concentrated stock position?
 A1: A concentrated stock position occurs when a large portion of your net worth is tied to a single company’s stock. Generally, if it exceeds 20% of your total net worth, it’s considered concentrated.

Q2: What are the risks of holding concentrated stock?
 A2: Concentrated stock can dramatically impact your financial plan if the company underperforms or goes bankrupt. It reduces portfolio diversification and can increase volatility.

Q3: How do I calculate if I have a concentrated equity position?
 A3: Divide the value of your largest stock holding by your total net worth. For example, if your largest holding is $500,000 and your net worth is $2,000,000, your concentrated stock percentage is 25%.

Q4: Should I sell my concentrated stock?
 A4: There’s no one-size-fits-all answer. If the stock represents too much of your net worth, diversifying gradually is typically recommended. Consult a financial planner for personalized guidance.

Q5: How can I reduce the tax impact when diversifying?
 A5: Strategies include tax-loss harvesting, using qualified accounts, and consulting a tax professional for stepwise sales to minimize capital gains taxes.

Q6: Can concentrated stock ever be beneficial?
 A6: Yes. Concentrated stock can allow you to capitalize on high-growth companies, receive executive compensation, or have more control over investments—but risks must be managed carefully.

 

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Disclaimer: The information provided in this blog post is for general informational purposes only and should not be construed as financial or legal advice. Please consult with a qualified professional for advice regarding your specific situation.

DISCLOSURE: Client stories included in this blog reflect hypothetical client situations that represent those commonly encountered by AIWM representatives.