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Concentrated Stock Portfolios
Deborah Christie, CFA, Sean McLaughlin, CFA, Chris Parker, CFA
- Many families have significant wealth tied up in the publicly traded shares of a single firm. Concentrated exposure to a single stock—often the family’s original source of wealth—represents a significant risk to the family’s wealth and its future spending and charitable-gifting power. Single stocks, on average, are about 68% more volatile than a diversified portfolio, and are much more crash-prone. This greater risk is generally uncompensated, with single stocks offering a lower return, on average, than a diversified portfolio. Investors who are not in a position to control the company’s operations and who do not have confidence it will outperform can generally benefit from paring back their exposure.
- Emotional ties to the company that may have made the family wealthy can discourage diversification. Additional impediments to diversification include: anchoring to a particular reference price (“I will not sell until the share price gets back above $100”), loss avoidance (investors tend to prefer avoiding losses, such as the guaranteed loss associated with capital gains tax, to acquiring gains), and an attraction to long shots (an investor tendency toward over-optimism about favorable low-probability outcomes).
- For families who commit to reducing their single-stock risk, a variety of strategies are available. Outright sales are straightforward and effective (these can take place immediately, or can be structured over time with covered calls to ensure a disciplined approach and add income). For families who have charitable goals, granting concentrated low-basis shares to a charitable investment pool (such as the family’s private foundation, to a donor-advised fund, or to a community foundation) is a simple yet effective strategy to permanently eliminate exposure to the concentrated position. For temporary hedging, zero-premium collars can be effective.