Even though stock ownership in general has gone down significantly in recent years, a recent Gallup poll revealed more than half of American workers own stock of one sort or another, while the National Center for Employee Ownership reports 36% of those who work at an entity that issues stock own shares in it.
All that “own company” stock, often acquired over a long professional career and at a below-market price through options or incentive grants, can add up to a very large proportion of a client’s assets.
According to Schwab Stock Plan Services, of the 60% of those employees planning to use equity compensation for retirement, more than 65% of their retirement assets are in that equity compensation. Diversification could help protect a portfolio from the volatility of a single stock. The problem is that a significant percentage of the employee stock owners have an emotional attachment to their own company stock. Although it may be difficult to guide them toward diversification, you can help steer them toward better financial planning.
Understand Your Clients
To lead your clients to a less risky portfolio profile, you will need to first identify how your clients feel about their own company stock to recognize their emotional attachment to it. You will then need to address that emotional attachment to their (potentially) overly concentrated portfolio and encourage a less risky, more diversified investment portfolio.
FOMO Rules Them All
One of the biggest problems in guiding your clients toward selling employer stock is that they are afraid there will be a big run-up in price that they will miss. This fear, commonly known as the fear of missing out, has become a powerful disincentive for selling stock. While FOMO is often associated with missing the upside potential of company stock, FOMO also may be an issue in a down market, missing out on selling prior to the stock price going down.
Fear of missing out and fear of bad timing are the biggest fears in selling employee stock or exercising employee options. It is your job to guide your clients with concentrated employer stock positions around their FOMO.
They Might Not Like It, But They May Be Open To It
Clients tend to cling to their employee stock. They may have created a large portion of their wealth with that company, they enjoyed medical insurance and other benefits with that company, so why wouldn’t they want to keep the company stock as long as they can? If you advise them to sell it all right away, they might not like that advice right off the bat. Even so, as a responsible advisor — and a fiduciary to your clients — it is imperative that you continue to advise them when it’s time to reduce their risk, usually by selling some or all of their concentrated position. This might happen in a single event, or it might be planned over a scheduled period of time.
Having a plan in place can help persuade your clients to think logically, rather than emotionally, about their investments. Acknowledge their hard work, the value of their company, and the time and energy they’ve invested in it. But get them to focus on their investment and lifestyle goals — on why they invested — instead of focusing on that particular stock. Remind them that any stock — including that of their employer — is an investment and must be treated as such.
In the end, you simply must make clear why it may be risky to hold a large percentage of any one stock in their investment account. To do so, you can remind them of companies such as Enron, whose employees had invested most of their retirement savings in the company’s stock and lost everything to the tune of over $1 billion in retirement assets when the company went belly-up. Similarly, remind them of the Lehman Brothers employees who lost hundreds of millions in employee stock grants when Lehman collapsed.
Even when the employer company stays in business, retired employees holding stock of companies such as Ford Motor Co. or General Electric can share their experience of huge losses in the value of their stock. There is simply no logic in continuing to be exposed to such concentration risks at any time, but particularly not as retirement comes near.
Not Necessary To Do It All At Once
Your client may not react well if you sell a large position all at one time; the IRS will, however, be delighted at the taxes it will likely receive. Thus, your job is to find a way to reduce the client’s exposure to the one stock in a way that will 1) be the most tax efficient, 2) provide the largest possible gain or smallest possible loss, 3) reduce the client’s risk on an ongoing basis and 4) meet the financial plan’s stated goal.
Sales to reduce the overall position are the ultimate goal. Slowing the pace of reducing the concentration while still limiting the client’s exposure can make for a healthier and longer-lasting client relationship in the long run.
The Ultimate Goal — Reduce The Position And Risk
According to the Financial Industry Regulatory Authority, whatever strategies you recommend to the client holding a concentrated position in his or her employer’s stock, the ultimate goal should be to aid the client in reducing a concentrated position risk that will only grow increasingly inappropriate as the client nears retirement.
Although each client portfolio should be viewed as a whole, with the entire risk profile considered, a general rule of thumb is that the client should hold no more than 10%-15% of their retirement assets in their former employer’s stock. Holding too much company stock for too long could be a bad idea. Your clients value your advice, and you should advise them to reduce their exposure to an emotional attachment with one single stock.
In sum, it will be your job to guide your clients around their fears, particularly their fear of missing a big run-up in their stock after they sell. Help your client decide what is important to them. Keep suggesting multiple and varied strategies that can be used to reduce a given client’s exposure to a concentrated position. Get them to trust the investment skills and wisdom that they hired you for — and you can talk your clients out of FOMO and into a stronger financial plan.