Tax-Efficient Ways to Manage Concentrated Stock Positions
By Brian Famigletti, Managing Director & Head of Marketing
The Hidden Risk of Concentrated Stock
Many high-net-worth investors find themselves with a large portion of their net worth consisting of a single highly concentrated stock. This can be the result of things like early investment success, an inheritance, or long-term equity compensation.
Relying on one company too heavily can expose portfolios to significant risk and likely means that you are not properly diversified. However, investors sometimes hesitate to sell despite the inherent risks to their long-term financial security.
This reluctance can have multiple causes. For example, selling may have tax implications, and psychological factors can also play a part. Familiarity bias can cause people to favor assets they know about, and the endowment effect leads people to give more value to things they already own.
Diversification Strategies
Some investors are convinced that their only options are to either hold or sell. But the reality is that there are a number of tools that can help alleviate some of the risk associated with their highly concentrated stock.
For instance, rather than triggering a large capital gains tax bill through full liquidation, here are some strategies to consider:
- Direct indexing: This involves owning individual stocks that make up an index, such as the S&P 500, rather than diversifying through index funds or ETFs. Direct indexing allows investors to harvest tax losses on individual shares. This can then be used to offset gains generated by the sale of some of the concentrated stock.
- Option overlays: These work differently as they don’t involve selling the existing assets. Instead, they can provide a hedge on the remaining stock position, which helps to manage the downside risk. For instance, put options can provide significant downside protection. These involve locking in a price at which they can sell their stock should the market price drop. Investors might also sell options and use the premium to offset the tax bill from the sale of the concentrated stock.
A Balanced Approach
Combined, these tools offer a path toward diversification using tax-loss harvesting and options to reduce risk while minimizing the immediate tax burden. For instance, a client who received company stock from their employer may choose to sell a portion of the stock to fund a direct indexing portfolio, while using an options strategy to hedge the remainder and cover the tax bill.
A dual approach like this can provide immediate risk management and set the foundation for tax-efficient diversification over time. If you’re navigating the complexities of concentrated stock exposure, connect with Griffin Asset Management for help with designing a customized strategy.
Source:
BlackRock: Strategies to manage your clients’ concentrated stock
