ESOP - Diversification options

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davehica
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ESOP - Diversification options

Post by davehica » Wed Aug 08, 2018 6:22 pm

Hi All - My wife and I both work for an ESOP company that is allowing a one time diversification option early next year. I am trying to determine whether I should diversify some money out of our ESOP and into our 401ks, and if so, what the appropriate % would be. A few details:

Company is private and a leader in a fast growing industry, but growth has slowed into the single digits over the last few years. I think future prospects remain good, but obviously anything is possible.

Our details

Mid 40’s with 2 kids
Salary - 280k gross combined
Home - 945k mortgage with ~600k equity
ESOP - $1.42MM
401ks - $880K
Roth’s - $67k
Taxable - $21k
Cash savings - $20k

We can sell up to 50% of our total ESOP value back to the company and move into the 401ks which are invested 85/15 in simple vanguard portfolios. If we are targeting retirement in 10 years, how should we think about this? I’m thinking 25% max since the ESOP has done so well, but acknowledge “past performance” and all that.

UpperNwGuy
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Re: ESOP - Diversification options

Post by UpperNwGuy » Wed Aug 08, 2018 6:48 pm

ESOP = Employee Stock Ownership Plan

I had to look it up, so I'll post it here so others won't have to.

ExitStageLeft
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Re: ESOP - Diversification options

Post by ExitStageLeft » Wed Aug 08, 2018 6:49 pm

Bank it and keep working. I would sell as much as possible because you are currently concentrating a huge amount of risk in one company.

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David Jay
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Re: ESOP - Diversification options

Post by David Jay » Wed Aug 08, 2018 7:00 pm

I would do the full 50% without the slightest hesitation. It isn’t about “performance”, it is about RISK. Right now you two have horribly concentrated risk. Two thirds of your retirement portfolio and both of your jobs are dependent on one company.

There were hundreds of Worldcom employees who were so pleased with their company’s stock performance that they invested 100% of their 401Ks into company stock. They were multi-millionaires on paper but when Worldcom collapsed they were unemployed with a worthless retirement portfolio.

(FYI - My company is a 100% ESOP, per our plan I was able to diversify 25% at age 55 and 25% at age 60. I took them both. The company is doing great but I can’t afford the concentration of risk).
Prediction is very difficult, especially about the future - Niels Bohr | To get the "risk premium", you really do have to take the risk - nisiprius

Eureka
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Re: ESOP - Diversification options

Post by Eureka » Thu Aug 09, 2018 2:09 am

I’d go at least 25 percent and maybe the max allowed. Any company can blow up.

I worked for a newspaper that was an ESOP from 1984 to 1996. I had already been there six years when it was launched. The stock did fabulously well thanks to a great stock market, ESOP tax breaks and no Internet competition.

The ESOP trustees decided to sell to a chain in 1996. The reason given was that so many people were retiring early that it endangered the plan. We all got to vote on the sale, which was approved. My paper and a small sister paper were sold for $174.5 million. The payout, which I rolled into an IRA, was the reason I was able to retire less than 11 years later at age 53.

In recent years, much larger papers have sold for much less. The New York Daily News recently sold for $1. If my former paper’s ESOP still existed, it would be in serious trouble.

I was never comfortable having most of my money in one Rust Belt newspaper. I thought it was a house of cards. It was, but it laid golden eggs when it collapsed (to mix a metaphor).

Not so very long ago, a newspaper was a license to print money. Complacent owners failed to see the threat from the Internet until it was too late. I recall a city editor telling me in 1996 that “the Internet is the CB radio of the ‘90s.” Everything can change faster than anyone can imagine.

Another ESOP at a mail-order firm just a few miles from my paper collapsed amid a changing market. The employee-owners lost their jobs and their investment — all of it.

megabad
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Re: ESOP - Diversification options

Post by megabad » Thu Aug 09, 2018 12:19 pm

Is ESOP already part of 401k plan (KSOP) or is this an act of combining the two? You may want to consider future NUA in your analysis to determine how much to leave in ESOP. Agree that you have a large holding and this presents risk though.

Jack FFR1846
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Re: ESOP - Diversification options

Post by Jack FFR1846 » Thu Aug 09, 2018 12:51 pm

I would sell that 50% to the company to put into the 401k and sell the other 50% to invest per IPS.


(note: I sell my ESOP, RSUs the milisecond that I'm able to)
Bogle: Smart Beta is stupid

davehica
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Re: ESOP - Diversification options

Post by davehica » Sun Aug 12, 2018 2:05 pm

Thanks for the responses. I'm now leaning towards selling the full 50%, but I wonder about the following:
I would do the full 50% without the slightest hesitation. It isn’t about “performance”, it is about RISK. Right now you two have horribly concentrated risk. Two thirds of your retirement portfolio and both of your jobs are dependent on one company.

There were hundreds of Worldcom employees who were so pleased with their company’s stock performance that they invested 100% of their 401Ks into company stock. They were multi-millionaires on paper but when Worldcom collapsed they were unemployed with a worthless retirement portfolio.
Since we have a decent amount in our 401Ks, is there a scenario where I evaluate our retirement goals assuming the ESOP goes to 0? Meaning if we would still be able to meet our retirement goals with the current 401K balance/contributions/growth, we could safely take more risk on ESOP concentration? Asking because I think there is still a pretty good chance that the ESOP outperforms our 401K portfolio, but our retirement goals would not be significantly impacted if it didnt.
Is ESOP already part of 401k plan (KSOP) or is this an act of combining the two? You may want to consider future NUA in your analysis to determine how much to leave in ESOP.
I don't know the exact terminology, but the ESOP is a pretax retirement vehicle. If we choose to diversify out, we can transfer to the 401K, an IRA, or take a cash distribution, so I don't think NUA applies here.

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David Jay
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Re: ESOP - Diversification options

Post by David Jay » Mon Aug 13, 2018 8:20 am

davehica wrote:
Sun Aug 12, 2018 2:05 pm
Thanks for the responses. I'm now leaning towards selling the full 50%, but I wonder about the following:
I would do the full 50% without the slightest hesitation. It isn’t about “performance”, it is about RISK. Right now you two have horribly concentrated risk. Two thirds of your retirement portfolio and both of your jobs are dependent on one company.

There were hundreds of Worldcom employees who were so pleased with their company’s stock performance that they invested 100% of their 401Ks into company stock. They were multi-millionaires on paper but when Worldcom collapsed they were unemployed with a worthless retirement portfolio.
Since we have a decent amount in our 401Ks, is there a scenario where I evaluate our retirement goals assuming the ESOP goes to 0? Meaning if we would still be able to meet our retirement goals with the current 401K balance/contributions/growth, we could safely take more risk on ESOP concentration? Asking because I think there is still a pretty good chance that the ESOP outperforms our 401K portfolio, but our retirement goals would not be significantly impacted if it didnt.
You still have 50% in the ESOP for future growth. I would diversify the full 50%. Remember the financial shock is not just ESOP goes to zero, but that it goes to zero with the loss of 2 jobs. How does that affect your plan? I doubt anyone working at the other companies mentioned above thought there was a significant risk investing in their employer's stock.

You are right, the bet is that you may well do better in the ESOP. But it remains a single-stock bet, the Boglehead principle is diversify away from single-company risk. Most recommend no more than 5% in any one company - your 50% of ESOP (after taking the maximum diversification) is still approximately 29% of your retirement portfolio.
Last edited by David Jay on Mon Aug 13, 2018 11:06 am, edited 1 time in total.
Prediction is very difficult, especially about the future - Niels Bohr | To get the "risk premium", you really do have to take the risk - nisiprius

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David Jay
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Re: ESOP - Diversification options

Post by David Jay » Mon Aug 13, 2018 8:28 am

davehica wrote:
Sun Aug 12, 2018 2:05 pm
If we choose to diversify out, we can transfer to the 401K, an IRA, or take a cash distribution...
I think this is the first time that I saw that you do in fact have the option of rolling over into a tIRA. I don't know the choices and costs in your 401K, but I chose to rollover into an IRA for maximum future flexibility (any custodian, any funds, etc.).
Prediction is very difficult, especially about the future - Niels Bohr | To get the "risk premium", you really do have to take the risk - nisiprius

davehica
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Re: ESOP - Diversification options

Post by davehica » Mon Aug 13, 2018 11:55 am

David Jay wrote:
Mon Aug 13, 2018 8:28 am
davehica wrote:
Sun Aug 12, 2018 2:05 pm
If we choose to diversify out, we can transfer to the 401K, an IRA, or take a cash distribution...
I think this is the first time that I saw that you do in fact have the option of rolling over into a tIRA. I don't know the choices and costs in your 401K, but I chose to rollover into an IRA for maximum future flexibility (any custodian, any funds, etc.).
I think I'm planning to roll into our 401k, mainly because I think there are backdoor roth implications if I rollover into a tIRA, correct? Also, my 401k is self-directed meaning I have access to the entire fund universe, so I have plenty of low cost index options.
David Jay wrote:
Mon Aug 13, 2018 8:20 am
davehica wrote:
Sun Aug 12, 2018 2:05 pm
Thanks for the responses. I'm now leaning towards selling the full 50%, but I wonder about the following:
I would do the full 50% without the slightest hesitation. It isn’t about “performance”, it is about RISK. Right now you two have horribly concentrated risk. Two thirds of your retirement portfolio and both of your jobs are dependent on one company.

There were hundreds of Worldcom employees who were so pleased with their company’s stock performance that they invested 100% of their 401Ks into company stock. They were multi-millionaires on paper but when Worldcom collapsed they were unemployed with a worthless retirement portfolio.
Since we have a decent amount in our 401Ks, is there a scenario where I evaluate our retirement goals assuming the ESOP goes to 0? Meaning if we would still be able to meet our retirement goals with the current 401K balance/contributions/growth, we could safely take more risk on ESOP concentration? Asking because I think there is still a pretty good chance that the ESOP outperforms our 401K portfolio, but our retirement goals would not be significantly impacted if it didnt.
You still have 50% in the ESOP for future growth. I would diversify the full 50%. Remember the financial shock is not just ESOP goes to zero, but that it goes to zero with the loss of 2 jobs. How does that affect your plan? I doubt anyone working at the other companies mentioned above thought there was a significant risk investing in their employer's stock.

You are right, the bet is that you may well do better in the ESOP. But it remains a single-stock bet, the Boglehead principle is diversify away from single-company risk. Most recommend no more than 5% in any one company - your 50% of ESOP (after taking the maximum diversification) is still approximately 29% of your retirement portfolio.
This is good perspective and I'm definitely doing the full 50%...thanks to everyone for the responses.

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blaugranamd
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Re: ESOP - Diversification options

Post by blaugranamd » Mon Aug 13, 2018 12:01 pm

David Jay wrote:
Wed Aug 08, 2018 7:00 pm
I would do the full 50% without the slightest hesitation. It isn’t about “performance”, it is about RISK. Right now you two have horribly concentrated risk. Two thirds of your retirement portfolio and both of your jobs are dependent on one company.

There were hundreds of Worldcom employees who were so pleased with their company’s stock performance that they invested 100% of their 401Ks into company stock. They were multi-millionaires on paper but when Worldcom collapsed they were unemployed with a worthless retirement portfolio.

(FYI - My company is a 100% ESOP, per our plan I was able to diversify 25% at age 55 and 25% at age 60. I took them both. The company is doing great but I can’t afford the concentration of risk).
+1000000. You have $1.4M and all current and future income prospects tied to this company. That's an enormous amount of uncompensated risk.
-- Don't mistake more funds for more diversity: Total Int'l + Total Market = 7k to 10k stocks -- | -- Market return does NOT = average nor 50th percentile, rather 80-90th percentile long term ---

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