value of stock options

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multiham
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value of stock options

Post by multiham » Sun Apr 16, 2017 11:02 am

I am lucky enough to have some stock options from the megacorp I work for. I most likely will not be getting anymore as they have changed the requirements to be eligible for options to a level I most likely will not make. The 2 lots of options I have expire in 2019 and 2020. When I first got them in 2009 and 2010, Schwab ran a model for me (Black Scholes) which provided me with guidance on what stock price I should exercise them at. This is now dated information and Schwab no longer offers that service unless you are willing to pay for advisory services.

My question is does anyone have suggestions on how to best determine the price to exercise these at? This would be a buy and same day sale transaction as I do not want to hold anymore of company stock.

Appreciate your help!

shanghaista
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Re: value of stock options

Post by shanghaista » Sun Apr 16, 2017 11:15 am

https://www.mystockoptions.com/black-scholes.cfm

You should be able to find the market price of the options rather easily from any brokerage or financial site (yahoo/Google Finance).

If not, there are some calculators that should quickly do the Black-Scholes formula for you.

random_walker_77
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Re: value of stock options

Post by random_walker_77 » Sun Apr 16, 2017 11:32 am

If you want to estimate the value of the options, check how much the nearest comparable options sold for on the market. The full desktop website for yahoo finance shows option pricing. Check the 2019 options for your stock. (Dropbox selects expiration date)
I.e. http://finance.yahoo.com/quote/IBM/options?p=IBM

Black-scholes prices European-style options that can *only* be exercised on the expiration date, but it's the available and accepted algorithm. Your US market options are more flexible because you can exercise it anytime. Employee options aren't as good as the equivalent duration option you'd buy on the market because you lose the option if you lose your job.

On the other hand, employee options usually give you much longer windows, such as your 10 year options.

random_walker_77
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Re: value of stock options

Post by random_walker_77 » Sun Apr 16, 2017 11:37 am

As to how to determine when to exercise and sell the stock... that's hard. When do you think the stock has peaked? Are you in danger of leaving/losing your job when the stock is lower. A market crash may also make the options worthless for a period of time.

ccieemeritus
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Re: value of stock options

Post by ccieemeritus » Sun Apr 16, 2017 12:30 pm

Forget the theoretical value calculators.

The stock option is a bet with other people's money. If the stock price goes up, you make money. But if the stock price goes down far enough, the worst that happens is that you don't exercise the options and may have missed a chance to make some money.

I lived through the 2001 tech bubble (but didn't have significant options at the time). I had a friend at Cisco who, if he sold his options near the peak, he would have been able to retire (Cisco was briefly the most valuable company in the US). He didn't. Stock crashed. Many options were never exercised. He's still working (but doing ok).

Later in the 2005-2010 era, when I had significant options, I held the options until I had substantial gains. Selling a "bet with other peoples money" for a $2 gain per share was not profitable enough to lose out on the possibility of future gains at someone else's risk. But once I had a substantial gain I started selling substantial shares and paid off the mortgage. I spread out those sales across multiple years to "lock in" some gains while still leaving opportunity for more gains.

That way, if the price went up, I'd have more gains and be happy. If the price went down, I already locked in some gains, and was somewhat happy at my foresight.

Given hindsight, you'll always find a way you could have made more money. Forget about that line of thinking. They way leads to being unhappy.

Dirghatamas
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Re: value of stock options

Post by Dirghatamas » Sun Apr 16, 2017 12:38 pm

I have been getting stocks options, Employee stock purchase (ESPP) and (during this decade) restricted stock units (RSU) for about 25 years now. I am a strict passive investor and hold no individual stocks as a matter of philosophy, so I never assume I can predict the future stock direction of a company or a market. So, here is what I always do.

1) ESPP and RSU are very similar in how they should be sold. I sell them immediately, as soon as they vest and invest in broad market. The argument is that they are exactly same as ordinary income. So, there is no benefit (other than speculation) to holding on. There are no tax benefits to holding longer. In this case, diversification is always better than individual stocks.

2) Stock options. I wait as LONG as possible (roughly six months or so before they expire). The reasoning is that while I can't predict the market or company stock at a micro level, the predicted long term trend is positive. All stocks (assuming no other information) should be expected to rise over time due to Inflation, reinvestment, share buybacks etc. This makes no difference for ESPP and RSU because you are exchanging like for like (individual stocks for market). For stock options, which are valued as market price - your price, a secular move up, means you are almost always better off waiting. The risk you take of course is lack of diversification.

So, basically my algorithm is, sell RSU and ESPP as early as possible and stock options as late as possible.

Valuethinker
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Re: value of stock options

Post by Valuethinker » Sun Apr 16, 2017 1:04 pm

multiham wrote:I am lucky enough to have some stock options from the megacorp I work for. I most likely will not be getting anymore as they have changed the requirements to be eligible for options to a level I most likely will not make. The 2 lots of options I have expire in 2019 and 2020. When I first got them in 2009 and 2010, Schwab ran a model for me (Black Scholes) which provided me with guidance on what stock price I should exercise them at. This is now dated information and Schwab no longer offers that service unless you are willing to pay for advisory services.

My question is does anyone have suggestions on how to best determine the price to exercise these at? This would be a buy and same day sale transaction as I do not want to hold anymore of company stock.

Appreciate your help!


An option is a leveraged bet on the stock price of the company. Good news: someone else (the issuing company, in effect) has provided you with the leverage.

if you can convince yourself you are NOT in possession of inside information and you think the stock price has peaked, then you sell.

That's also true if the gains are material to you. If you could move to say a retirement position with one fell swoop. Or redeploy that money into your asset allocation (or to repay a high interest debt) very quickly.

In the absence of either of those 2 factors, usually the best thing is to hold until right before expiry (being me, I'd say T minus 12 months, or T minus 6 months; theory would say days or 1 day before) and then exercise and sell then.

What happens if you get laid off or fired or quit? Do you get time to exercise and sell? Or do you lose them? That would tilt me towards sooner rather than later.

Ditto if in a volatile industry like tech or financial services. At least taking half the money off the table.

Valuethinker
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Re: value of stock options

Post by Valuethinker » Sun Apr 16, 2017 1:07 pm

shanghaista wrote:https://www.mystockoptions.com/black-scholes.cfm

You should be able to find the market price of the options rather easily from any brokerage or financial site (yahoo/Google Finance).

If not, there are some calculators that should quickly do the Black-Scholes formula for you.


Generally AFAIK most stocks don't have traded options?

And the map to employee options is not perfect:

- employee stock options have far longer term, generally-- traded options seldom beyond 12 months?

- employee options dilute the issued capital of the company, traded options do not

Figuring out what the VOL (implied Volatility) is difficult.

One guide is the Notes to the Report & Accounts, because the company has to estimate the cost of issued options to earnings (and the auditors have to approve it). The stock options note should give the volatility they used.

multiham
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Re: value of stock options

Post by multiham » Sun Apr 16, 2017 6:33 pm

Thank you everyone for the help and advice.

I am anywhere from 3 to 7 years from retirement. I have no plans on leaving the company. My plan was to wait until at least 2018 to exercise and sell. Just wasn't sure if that was a great idea given that I've read a lot about not having too many investments tied up in the company you work for.

mortfree
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Re: value of stock options

Post by mortfree » Sun Apr 16, 2017 6:45 pm

I make a table of potential stock prices and the amount I will receive. For my company it is in $5 increments to see the change in value.

Most importantly you want to use the net take home value because you'll notice that there isn't a huge difference once taxes are taken out.

$10. $15. $20. $25
300 shares. Value1. Value2. Value3. Value4

NiceUnparticularMan
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Re: value of stock options

Post by NiceUnparticularMan » Mon Apr 17, 2017 5:53 am

So these are tricky. Standard models imply waiting until right before expiration. Standard models are missing a crucial factor, however, which is that if you have enough of these, they may represent a large portion of your net worth. If so, then they are putting you into a situation of being not properly diversified. Undiversified risk is uncompensated. So, if you are in that position, there is a significant cost to you of holding them after they vest but before they expire for a long period of time. Some studies have suggested that the cost of that lack of diversification is higher than the benefit of being leveraged. That's even more true if you are talking about your employer, because that increases your undiversified risk through the "human capital" channel. Similarly if you have unvested restricted stock, and so on.

The other thing to keep in mind is that the more in the money they get, the less leveraged they are, meaning the more you are playing with your money and not someone else's.

OK, so some rough rules of thumb. If the exercisable value of the options would not be a significant portion of your net worth, it is not such a big deal. But if it is a significant portion, you should consider exercising some to get down to a smaller portion of your net worth. And if you have different option grants, you should be looking at exercising the ones more in the money, not necessarily just the ones closest to expiring.

On a personal note--once I embraced all this, I came to the conclusion that thanks to a recent run up in its stock price, we had become overexposed to my wife's stock options. So, we put in place a plan to exercise them until we get back down to a more comfortable level (I don't want to be more than about 10% of net worth, ideally more like 5%, and we were at like 20%). And we targeted the ones most in the money to start.

Wagnerjb
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Re: value of stock options

Post by Wagnerjb » Mon Apr 17, 2017 7:59 am

NiceUnparticularMan wrote:So these are tricky. Standard models imply waiting until right before expiration. Standard models are missing a crucial factor, however, which is that if you have enough of these, they may represent a large portion of your net worth. If so, then they are putting you into a situation of being not properly diversified.


I agree with this, and that standard models don't take diversification issues into account.

Undiversified risk is uncompensated


Yes, but in this case the undiversified risk is COMPENSATED. Your employer is compensating you with something of value. Just like with RSU's, you have to accept the slight impairment in diversification until vesting & sale, or until exercise.

Some studies have suggested that the cost of that lack of diversification is higher than the benefit of being leveraged.


I would love to see such a study, if you would be so kind as to provide a link.

Thanks.
Andy

Valuethinker
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Re: value of stock options

Post by Valuethinker » Mon Apr 17, 2017 8:36 am

NiceUnparticularMan wrote:So these are tricky. Standard models imply waiting until right before expiration. Standard models are missing a crucial factor, however, which is that if you have enough of these, they may represent a large portion of your net worth. If so, then they are putting you into a situation of being not properly diversified. Undiversified risk is uncompensated. So, if you are in that position, there is a significant cost to you of holding them after they vest but before they expire for a long period of time. Some studies have suggested that the cost of that lack of diversification is higher than the benefit of being leveraged. That's even more true if you are talking about your employer, because that increases your undiversified risk through the "human capital" channel. Similarly if you have unvested restricted stock, and so on.

The other thing to keep in mind is that the more in the money they get, the less leveraged they are, meaning the more you are playing with your money and not someone else's.

OK, so some rough rules of thumb. If the exercisable value of the options would not be a significant portion of your net worth, it is not such a big deal. But if it is a significant portion, you should consider exercising some to get down to a smaller portion of your net worth. And if you have different option grants, you should be looking at exercising the ones more in the money, not necessarily just the ones closest to expiring.

On a personal note--once I embraced all this, I came to the conclusion that thanks to a recent run up in its stock price, we had become overexposed to my wife's stock options. So, we put in place a plan to exercise them until we get back down to a more comfortable level (I don't want to be more than about 10% of net worth, ideally more like 5%, and we were at like 20%). And we targeted the ones most in the money to start.


This is all good stuff.

I was trying to come up with "life changing amount". Maybe a hard rule like 10% of net worth is it. Above that, cut exposure.

Certainly at greater than 20% of net worth, depending on all sorts of other factors, it feels like too much.

Valuethinker
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Re: value of stock options

Post by Valuethinker » Mon Apr 17, 2017 8:40 am

multiham wrote:Thank you everyone for the help and advice.

I am anywhere from 3 to 7 years from retirement. I have no plans on leaving the company. My plan was to wait until at least 2018 to exercise and sell. Just wasn't sure if that was a great idea given that I've read a lot about not having too many investments tied up in the company you work for.


Here's an idea.

Suppose you have 10,000 options due in each of 2019, 2020.

Depending on the exercise price, I think the rule of thumb is sell the ones that are *less* in the money *first* (because there's more risk they could be valueless), you could work a way to split that into 4 parts, equal in value at current share price.

Then sell 25% in each of the 4 tax years 2017, 18, 19, 20. Or something like 1/6th in each of the first 2 years, 1/3rd in the remaining 2 years.

That way, you have taken some money "off the table" whilst retaining upside.

The ones further Out of The Money have higher leverage to rises in stock price, but also more risk of expiry with zero value.

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DaftInvestor
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Re: value of stock options

Post by DaftInvestor » Mon Apr 17, 2017 8:42 am

The answer for me would be "NOW" - the risk is too high to hold too much in a single company - especially the one that I'm relying on for income.
I've known too many people that said "if I had only cashed my stock options before...."
If you had the money to invest would you put it into your company stock? If the answer is no - then why are you holding? Sell and use the proceeds to diversify into an index fund. As the previous poster stated - you don't have to go all-in in one direction or another. I know a lot of folks that cash out half and ride-out the other half.

NiceUnparticularMan
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Re: value of stock options

Post by NiceUnparticularMan » Mon Apr 17, 2017 8:58 am

Wagnerjb wrote:I would love to see such a study, if you would be so kind as to provide a link.


Sure. Here is a paper fleshing out such a view:

http://www.slcg.com/pdf/workingpapers/O ... ptions.pdf

random_walker_77
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Re: value of stock options

Post by random_walker_77 » Mon Apr 17, 2017 9:26 am

Whatever you do, don't ever go look back at "what if's". Water under the bridge, and all that. Otherwise, you'll just get depressed.

Valuethinker
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Re: value of stock options

Post by Valuethinker » Mon Apr 17, 2017 9:39 am

DaftInvestor wrote:The answer for me would be "NOW" - the risk is too high to hold too much in a single company - especially the one that I'm relying on for income.
I've known too many people that said "if I had only cashed my stock options before...."
If you had the money to invest would you put it into your company stock? If the answer is no - then why are you holding? Sell and use the proceeds to diversify into an index fund. As the previous poster stated - you don't have to go all-in in one direction or another. I know a lot of folks that cash out half and ride-out the other half.


Although "split the difference" sounds like a cop out, it's actually got a foundation in decision & utility theory.

Roughly, the cost of being half wrong, and half right, is considerably less painful than the cost of being 100% wrong. And the additional utility gained by the +50% of being 100% right is not as great as the utility lost by being 100% wrong.

It speaks to spreading it out.

I agree it is not money until it has been diversified. It's just potential money.

Wagnerjb
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Re: value of stock options

Post by Wagnerjb » Tue Apr 18, 2017 11:47 am

NiceUnparticularMan wrote:
Wagnerjb wrote:I would love to see such a study, if you would be so kind as to provide a link.


Sure. Here is a paper fleshing out such a view:

http://www.slcg.com/pdf/workingpapers/O ... ptions.pdf


Thanks. I was hoping for an analytical calculation of the value of poor diversification as compared to the value destruction of early exercise. The paper you linked provided the proper general level of discussion framework, which I have also seen elsewhere. However, this paper does not provide any form of guidance other than a very high level statement (the underline is mine):

At one extreme then, if an option is deep in the money and represents a significant fraction of the employee’s wealth, the option should be exercised early and the acquired shares sold. At the other extreme, options which are at or near-the-money and with considerable time left to expiration should not be exercised since the option value significantly exceeds the value of the diversified portfolio which can be purchased with the net benefit from exercising the option. At some intermediate stock price, prudent investors are indifferent between exercising the NQSOs and holding the unexercised options. The precise determination of this threshold price is beyond the scope of this paper as most un-exercise and hold cases will involve options which were left unexercised even though they were deep in the money and represented a large fraction of the employee’s wealth.


I have previously posted a link to a Parametrics Portfolio paper which provides a tangible framework for helping an investor decide when to exercise employee stock options when they represent an unacceptably large percentage of their net worth. That link appears to be broken and I cannot find the paper on the Parametrics site. However, I found a paper with a similar framework, as shown in figure 5 of this paper:

http://www.cfapubs.org/doi/pdf/10.2469/cp.v2002.n4.3216

Personally, I find figure 5 to be a common-sense approach to a very difficult issue....where calculating the "right" time and amount to exercise is probably impossible.....and is certainly different for different situations. At least figure 5 gives the investor a tangible guideline for action, as opposed to the general statements with which we all agree.

Best wishes.
Andy

NiceUnparticularMan
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Re: value of stock options

Post by NiceUnparticularMan » Tue Apr 18, 2017 12:02 pm

Yeah, any model is going to have the problem of too many key variables depending on the circumstances of the employee, plus also things about the stock in question.

Maybe someone will invent a useful online calculator or app.

MikeG62
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Re: value of stock options

Post by MikeG62 » Tue Apr 18, 2017 7:36 pm

multiham wrote:I am lucky enough to have some stock options from the megacorp I work for. I most likely will not be getting anymore as they have changed the requirements to be eligible for options to a level I most likely will not make. The 2 lots of options I have expire in 2019 and 2020. When I first got them in 2009 and 2010, Schwab ran a model for me (Black Scholes) which provided me with guidance on what stock price I should exercise them at. This is now dated information and Schwab no longer offers that service unless you are willing to pay for advisory services.

My question is does anyone have suggestions on how to best determine the price to exercise these at? This would be a buy and same day sale transaction as I do not want to hold anymore of company stock.

Appreciate your help!


One thing you can do is go back to the 10K (financial statement footnotes) for the years you got these grants and see what value was placed on them by the company for the purposes of determining how much to expense as stock-based compensation. Companies use an option pricing model like Lattice-Binomial (predominantly) or Black-Scholes. Either way, these option pricing models are fairly sophisticated and do come up with a value per share of the option on the grant date. So if the current stock price exceeds the strike price by the value used for expensing, that could be an indicator that the options are fully valued.

I used that as a one trigger for exercising options when I was working. FWIW, I was an option receiving employee for over 20 years so lots of experience exercising options.

One thing is for sure, if you exercise, don't look back and calculate what you might have had if you waited longer to exercise. Any income given up is like insurance - a cost to lock in the gains you were able to monetize.

I would add one more thought. If the value of the options are insignificant relative to your assets or net worth it could be worth taking a flyer and holding these and waiting to exercise until the year they expire, in the event the company performance takes off and the option value skyrockets.
Last edited by MikeG62 on Wed Apr 19, 2017 8:00 am, edited 2 times in total.

VaR
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Re: value of stock options

Post by VaR » Tue Apr 18, 2017 11:18 pm

1. Are these Incentive Stock Options or are they Non-Qualified Stock Options?
2. How far in the money are they? What is the strike price and what is the current market price of the stock?
3. What is the implied volatility of options? Or failing that what is the historical volatility of the equity?

If you private message the company name to me, I can give you the implied and historical vols.

If they are deep in the money, then they're mostly all instrinsic value so you may as well cash them out to reduce concentration risk.

tscomplaint
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Re: value of stock options

Post by tscomplaint » Wed Apr 19, 2017 12:48 am

Stupid question here - can someone explain why the volatility is important? Is it just to try to determine how risky holding the options is?

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Portfolio7
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Re: value of stock options

Post by Portfolio7 » Wed Apr 19, 2017 1:15 am

I'm no expert, but there are apparently many studies on this thorny question. Articles I've read indicate that they tend to agree you should wait until the last possible moment before expiration. There are a lot of great comments above about taking into account your personal situation. You can also buy options to lock in a certain range of results, but I couldn't really find a way to make that work like I wanted. Complexity, risk, modest benefit... not worth it for me.

I have had one modestly substantial option grant, and I sold about 6 months before expiration. I missed a nice run up in the last two months, about 5 grand I missed out on, and I have a slight nagging regret. Intellectually, I think the decision to sell was fine, emotionally, I'm an optimizer so I feel it as a loss (amazing how the psychology works even when you are aware of it). I think in retrospect I should have DCA'd out, as one poster above suggests. Hope that's helpful.
An investment in knowledge pays the best interest.

Valuethinker
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Re: value of stock options

Post by Valuethinker » Wed Apr 19, 2017 2:36 am

tscomplaint wrote:Stupid question here - can someone explain why the volatility is important? Is it just to try to determine how risky holding the options is?



Option pricing theory (Black Scholes - Merton & beyond).

The 5 factors which drive the price of an option are:

- risk free interest rate
- exercise/ strike price
- price of underlying stock
- time to expiry (time value)
- volatility of the underlying

In practice, as I understand it, when you trade options you know all of those plus the option price (the Premium) and the model gives you an Implied Volatility, and that's what you decide on -- whether that's worth it.

Note that a stock option given to an employee is equivalent to a Long Dated Call option *except* that the exercise of the option, In The Money, dilutes all stockholders, whereas with traded options (through an exchange) that's not true.

Worth also noting BS-M assumes no dividends. Dividends lower the value of the option (for a call option, anyways) because the holder does not get the dividends.

Volatility matters because the higher the volatility, the greater the chance the underlying stock will jump in price to make you more money (lower price if a Put option, higher price if a call Option).
Last edited by Valuethinker on Thu Apr 20, 2017 7:54 am, edited 1 time in total.

multiham
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Re: value of stock options

Post by multiham » Wed Apr 19, 2017 8:02 pm

VaR wrote:1. Are these Incentive Stock Options or are they Non-Qualified Stock Options?
2. How far in the money are they? What is the strike price and what is the current market price of the stock?
3. What is the implied volatility of options? Or failing that what is the historical volatility of the equity?

If you private message the company name to me, I can give you the implied and historical vols.

If they are deep in the money, then they're mostly all instrinsic value so you may as well cash them out to reduce concentration risk.


They are NQ options which are deep in the money ($121 market price per share, $58 strike price and $65 strike price). Not sure about the volatility.

It is not huge $ as I do not have a lot of shares, but it is enough to pay for 2 years of public college for my son.

I'll have to play around with the tax implications as I do not want to move out of the 28% bracket if possible.

multiham
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Re: value of stock options

Post by multiham » Wed Apr 19, 2017 8:07 pm

Thank you everyone for the replies! One thing I'm really good at is never looking back and saying what if. When I decide to do something, it means I have weighed all the factors and decided that my move is the right option at that time. No reason to look back and say what if. I will however learn from each transaction and build upon the factors I use when I make my decision.

The one piece I do struggle with is the tax bill. I know that I should probably sell these and invest in a low cost index fund, but I hate being bumped from the 28% bracket to the next bracket up. I probably let the tax bill have more influence than I should.

rakornacki1
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Re: value of stock options

Post by rakornacki1 » Thu Apr 20, 2017 6:31 am

Since the tax implications are so important to you (as they rightfully should be), I would suggest that while trying to maximize your gains you do this over 2 or 3 tax years, effectively smoothing out your tax burden.
Good luck & great profits!

Valuethinker
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Re: value of stock options

Post by Valuethinker » Thu Apr 20, 2017 7:53 am

multiham wrote:Thank you everyone for the replies! One thing I'm really good at is never looking back and saying what if. When I decide to do something, it means I have weighed all the factors and decided that my move is the right option at that time. No reason to look back and say what if. I will however learn from each transaction and build upon the factors I use when I make my decision.

The one piece I do struggle with is the tax bill. I know that I should probably sell these and invest in a low cost index fund, but I hate being bumped from the 28% bracket to the next bracket up. I probably let the tax bill have more influence than I should.


Take some money off the table, but manage vis a vis your tax bill. Spread out over 2 to 3 years.

That's the way to manage that. It is not all or nothing. Tax is a component of your return-- you should only care about net returns.

"Minimize regret" aka split-the-difference is a very valid strategy when faced with big imponderables.

Depending on tax, I would sell the ones least In The Money first, because that means a greater chance of the other ones having value when you do exercise them. But tradeoff against time to expiry (normally you want to exercise the closest ones to expiry first).

MikeG62
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Re: value of stock options

Post by MikeG62 » Thu Apr 20, 2017 8:19 am

multiham wrote:Thank you everyone for the replies! One thing I'm really good at is never looking back and saying what if. When I decide to do something, it means I have weighed all the factors and decided that my move is the right option at that time. No reason to look back and say what if. I will however learn from each transaction and build upon the factors I use when I make my decision.

The one piece I do struggle with is the tax bill. I know that I should probably sell these and invest in a low cost index fund, but I hate being bumped from the 28% bracket to the next bracket up. I probably let the tax bill have more influence than I should.


I would not necessarily let the tax implications drive the timing of the decision. Also, depending on how close you are to the top of the 28% bracket already, it may or may not make sense to spread the exercise over more than one year from a tax standpoint anyway.
Last edited by MikeG62 on Mon Apr 24, 2017 7:31 am, edited 1 time in total.

multiham
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Re: value of stock options

Post by multiham » Sun Apr 23, 2017 5:40 pm

Thank you for all the replies. I spent a few hours over the last few nights developing a tax estimator in Excel. I now have a very good idea of how much I can exercise and stay in the 28% tax bracket (will leave some cushion for unforeseen income) this year. Now have plan put together to exercise over next couple of years.

Appreciate all the help!

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