On money

If you own one stock, breaking up is hard to do

Personal Finance editor HELEN HUNTLEY E-mail: Click here Archive

Does a single stock make up most or all of your investment portfolio? That often happens when employees buy shares of company stock or business owners take stock instead of cash when they sell their interest in a company. It also can be the result of an inheritance or a particularly lucky investment. Maybe you bought Microsoft when the company went public.

Whatever your route to stock concentration, chances are good that you face a common dilemma: You probably should sell a big chunk of your shares but you probably don't want to. Lots of investors become emotionally attached to stocks. Selling may seem disloyal to the company where you worked or the relative who left you an inheritance. Others just hate the idea of paying capital gains tax even though rates are now just 5 or 15 percent depending on your tax bracket.

But hanging on to a concentrated stock position is usually a costly mistake, according to a provocative report recently produced by Bernstein Investment Research and Management.

"While the additional return potential for holding the right stock is substantial, significant underperformance has been four times as likely," the report concludes. Then there's the potential for really rotten results if you put all your money on a stock like Enron.

The bottom line is that diversified portfolios perform better with less risk than the average single-stock portfolio. The difference is big enough to make up for paying capital gains tax if you hold your account five to 10 years.

If you think it is time to diversify, you don't have to sell all your shares. The ideal divestiture might be as little as 30 percent or as much as 95 percent, depending on the stock and your circumstances. Bernstein says these factors weigh in favor of selling a larger percentage: The stock is more volatile than average, your cost for the stock is relatively high, you have a longer investment time horizon or you rely on this investment to support your lifestyle. That last one is important because reducing risk is crucial if you really need the money.

One alternative to an outright sale is a charitable donation. You can generate income and save on taxes by creating a charitable remainder trust that can then sell the stock or by using your shares to buy a charitable annuity.

Sophisticated hedging techniques also are available to reduce the risk of a single-stock portfolio, but Bernstein said they are better suited for investors looking for a short-term solution rather than long-term portfolio protection.

Of course professional investment managers stand ready to help you assemble a diversified portfolio to replace that single stock. Bernstein, a division of Alliance Capital Management in New York, plans to open an office in Tampa this year. However, do-it-yourselfers can use index mutual funds to diversify at low cost.

Q. I am a 73-year-old woman who owns my home and car and has no debt. I have $141,000 in IRA annuities from which I receive $9,300 a year in required minimum distributions. I also earn about $8,000 from odd jobs. My other assets are about $227,000 in savings, including a $38,000 CD that is maturing soon. Do you think I need to keep this $38,000 liquid in a money market or savings account?

An emergency fund is important, but you don't have to keep all of it in liquid accounts. One major risk you face is loss of your earned income should health problems or other concerns prevent you from working. Keep at least enough cash in a money market fund, checking or savings account to replace three months of this income. The rest of your savings can be kept in less liquid, higher-yielding accounts. Savings bonds are a good choice because they can be redeemed after one year, turning them into liquid accounts. You also could divide your money into multiple CDs with staggered maturities so you regularly would have accounts maturing.

One option for emergency needs is to tap your home equity. You could open a regular home equity credit line, which would have to be repaid, or a reverse mortgage home equity line, which would have higher fees, but which you would not have to pay back until you moved out of your house.

- Helen Huntley writes about investing and markets for the Times. If you have a question about investments or personal finance, send it to On Money. We'll try to answer those we think are of greatest reader interest. All questions must be submitted in writing, but readers' names will not be published. Send questions to huntley@sptimes.com or Helen Huntley, Times, P.O. Box 1121, St. Petersburg, FL 33731.

© 2006 • All Rights Reserved • St. Petersburg Times
490 First Avenue South • St. Petersburg, FL 33701 • 727-893-8111

Contact the Times | Privacy Policy
Standard of Accuracy | Terms, Conditions & Copyright