Managing a Concentrated Stock Position

While managing a concentrated stock position can be complex and emotionally tolling, it’s often necessary for long-term financial security. Fortunately, there are strategies that can help you reduce risk, so you can preserve your hard-earned wealth well into the future.

We often tell our clients that long-term financial success is as much about growing wealth as it is about managing risks. As the saying goes, concentration may build wealth, but diversification preserves it.

In most areas of life, putting “all of your eggs in one basket” can be a high-risk approach. And when it comes to investing, the asset that helps you create the most wealth can also pose the biggest threat.

What Is Concentration Risk?

In portfolio management, concentration risk is the risk of capital loss that arises from investing a large portion of your wealth in a single security, asset, or sector of the market. This risk tends to be most present with highly concentrated stock positions since stocks are an inherently volatile asset class.

Concentrated stock positions can result from a variety of scenarios. For example, company stock incentives may be a significant portion of your compensation package. Or perhaps you’re the founder of a startup and had a successful IPO.

Here are other common reasons investors accumulate concentrated stock positions:

• Receiving a large inheritance in the form of stock
• Aligning your retirement investments with your source of income (e.g., investing your 401(k) primarily in shares of your employer’s stock)
• Significant appreciation due to market movement

Indeed, diversification is the antidote to concentration risk. However, selling a position outright can result in serious tax consequences and other challenges. Fortunately, there are many effective strategies available to investors for managing a concentrated stock position.

If a significant portion of your net worth depends on the performance of one asset, consider the following strategies for managing a concentrated stock position:

Strategy #1: Tax-Efficient Diversification

If taxes aren’t a concern, the easiest approach may be to sell the position outright. Then, you can use the proceeds to invest in a diversified portfolio aligned with your objectives and risk tolerance.

Of course, for many investors, selling outright isn’t a viable strategy due to tax considerations or company restrictions on when you can sell stock. But, there are other ways to diversify a concentrated stock position.

Tax-Loss Harvesting

Tax-loss harvesting is the process of selling investments at a loss to offset your potential capital gains tax liability. You can use this strategy to reduce your position over time and invest the proceeds in an exchange traded fund—a portfolio that tracks a particular index or sector.

Tax-loss harvesting can be difficult during prolonged bull markets. Therefore, it may not be the best solution if you don’t have the luxury of time on your side. However, for investors who can afford to be patient, tax-loss harvesting can be an efficient way to unwind a concentrated position over time.

Strategy #2: Hedging

Hedging may be an effective option for managing a concentrated stock position, especially if you’re unable to part with an asset immediately. Keep in mind that hedging strategies can be complicated implement. It’s best to work with a trusted financial advisor to determine if these strategies make sense for you.

Strategy #3: Gifting

Lastly, gifting can be a tax-efficient strategy for managing a concentrated equity position. If you stay within the limits the IRS prescribes, you can typically reduce concentration risk and avoid paying taxes on the amount you gift or donate.

Charitable Gifting

Not all charities can accept gifts of highly appreciated stocks—but many will. In addition, you may want to consider donating shares of appreciated stock to a donor-advised fund (DAF).

DAFs allow you to take a taxable deduction in the year you contribute without having to decide immediately which charities benefit from your donation. Therefore, donating to a DAF can be an effective way to offload a concentrated stock position. At the same time, you can potentially reduce your overall tax bill.

Charitable Remainder Trusts

In addition to being a helpful estate planning tool, a charitable remainder trust (CRT) can be useful for managing a concentrated stock position. Simply put, a CRT lets you convert highly appreciated assets like stock into a stream of income for a specified period. At the end of the period, the remainder of the trust is donated to a charity of your choice.

It’s important to note that the SECURE Act of 2019 created new rules for trusts and trust holders. Be sure to consult with an expert to review the potential benefits and risks before pursuing this—or any—financial strategy.

Gifting to Family Members

You also have the option to gift all or part of your concentrated stock position to family members or loved ones. In 2022, the annual gift exclusion is $16,000. In other words, you can gift up to this amount per beneficiary without paying the gift tax. Depending on your estate planning goals, this may be a viable strategy for transferring wealth and managing a concentrated stock position.

The Value of Sage Advice

Managing a concentrated stock position can be complicated and may trigger surprising emotions depending on how you acquired it. Fortunately, there are financial strategies that can help you reduce concentration risk and preserve wealth long-term.

Keep in mind that this list is by no means inclusive. Consider working with an experienced wealth manager like SageMint Wealth, who can help you identify and execute the best course of action given your personal circumstances and objectives.

SageMint Wealth is a wealth management firm for high-net-worth individuals, families, and business owners. For all of life’s biggest milestones and decisions, we want to be your first call. To see if we may be the right fiduciary partner to help you meet your financial goals, please contact us.

Content in this material is for general information only and not intended to provide specific advice

or recommendations for any individual. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk. Investing includes risks, including fluctuating prices and loss of principal.

The financial advisors of SageMint Wealth are registered with, and securities and advisory services are offered through LPL Financial, a registered investment advisor. Member FINRA/SIPC.