Diversifying high-alpha stocks during a recession?

[t0s]

Hi folks,

I get compensated in stock from a big 5 tech company (FAANG) with a high alpha. Historically, I sell every vest and immediately diversify into the S&P.

However, the recent downturns have impacted my upcoming compensation significantly. If I diversify now, I will have accumulated excess losses on the way down due to the high alpha, and be restricting myself from excess growth on the way up.

So - do I perform this diversification, or to wait for losses to recover before diversifying?

Sincerely,
t0s

[Valuethinker]

Hi folks,

I get compensated in stock from a big 5 tech company (FAANG) with a high alpha. Historically, I sell every vest and immediately diversify into the S&P.

However, the recent downturns have impacted my upcoming compensation significantly. If I diversify now, I will have accumulated excess losses on the way down due to the high alpha, and be restricting myself from excess growth on the way up.

So - do I perform this diversification, or to wait for losses to recover before diversifying?

Sincerely,
t0s

I am wary of calling a stock "high alpha". What you mean, I think, is that it has "high idiosyncratic risk"? Remember that's diversifiable in a Modern Portfolio Theory framework - so the market should not pay you for taking on that risk.

So:

- "losses" -- you do not mean losses in a taxable sense, ie you paid one price but then the price is now below that? In which case you have realisable losses and tax planning comes into it (selling to tax loss harvest against other gains)

I think you mean "losses" as in "not worth what they once were"?

And the answer is, you never had that money in the first place. Your compensation is lower and that's exactly what is supposed to happen: to link your compensation to the variable successes of a company in a highly variable industry.

If you believe the stock has further upside, you could hold. But see point about diversifiable risk, above.

HOWEVER if you would not be buying the stock at this level, then you should not fall prey to the "Endowment Effect". You should be selling.

Keep in mind that you never had this money. It was just numbers on a screen. It's only when you actually realise cash gains that you have this money.

[Drafty33]

I agree with the other poster in that it is unusual to call a stock “high alpha” in my experience. Typically use for alpha is when a portfolio manager tries to show their overall stock picking prowess but I don’t even love how it gets used in that context.

Your post is a little jargon heavy but it sounds like you’re saying you were fine diversifying out of rsu vests when your stock was going up but now that it’s going down you don’t want to do that? You’re missing the point of diversification if that’s the case- you diversify to get away from the risks of only owning the one stock. Your analysis does not seem to allow for the fact that your company’s stock could continue down to zero, and it could go out of business. That’s much less likely to happen with 500 companies at once than it is for your company’s stock.

It sounds like you would be well served to continue your practice to diversify out of RSUs. If anything, your possibly overvalued tech stock experiencing a significant decline should be a reminder to you of why you diversify in the first place.

[MustachianBoglehead]

I would sell and diversify.

#1 You still own a large bucket of unvested stock that can capture gains.
#2 Some of the FAANG stocks have high Price/Earning ratios. Its possible the stock doesn’t go back up for a long time.
#3 I would not bet both my job and my portfolio on the same company, especially in this market. You could lose your job at the same time this stock tanks.

Personally, I would diversify into VTSAX or VTIAX but anything would be preferable to a single stock for me.

[Watty]

So - do I perform this diversification, or to wait for losses to recover before diversifying?

Often I like to turn questions around and ask the same question from a different point of view to get a different perspective. For example you could ask;

"I am a doctor with a high income and I have a lot of money to invest. Should I buy that FAANG stock instead of an index fund?"

I do not have a clue if that stock will go up or down but if you were talking to your doctor and suggested that they do that it would sound really reckless.

That is really the same question though unless you are in some special tax situation.

You also need to understate that just because you work for that FAANG company that does not automatically mean that you have any special insight in the company. It was years ago but in the 1980s I worked in corporate IT at a FAANG company back when there was only one of them. The main part of my job was to consolidate sales, orders, forecasts, and inventory information from half a dozen different computer systems. I literally saw the monthly consolidated reports and information which feed SEC reporting before the executives did.

Even with that information it constantly surprised me that the volatile stock seemed to move in unrelated ways to the numbers I was seeing. The problems was is that I was only seeing the current information and a lot of what determines the stock price is what the outside economy is doing, what the competitors are doing, long term trends, etc.

Few of the companies which would have been the FAANG like companies back in the 1980s are still around today as major companies if they even exist at all.

If you do decide to keep the FAANG stock you also need to figure out an exit stragety since it likely will not make sense to still be owning it decades from now.

Part of why buying individual stocks is so hard is that you have to be right twice to buy and then sell it both at the right times. Like many people here I did dabble with individual stocks an one thing I learned is that if you buy an individual stock you need to write down your criteria as to when you will sell it and actually sell it when that criteria is meet.

[KEotSK66]

It's possible your tech stock is dropping faster than the S&P so you would be selling low and buying high...generally not a good deal so maybe wait for the reverse situation.

The possible loss for selling the tech stock in exchange for the S&P has to weighted by its magnitude, in your eyes. If the loss is minor to you then moving to the S&P won't be a big deal.

Good Luck.

[t0s]

It's possible your tech stock is dropping faster than the S&P so you would be selling low and buying high...generally not a good deal so maybe wait for the reverse situation.

Yes, I was thinking along the same lines, it is dropping much faster than the S&P so selling now would feel like panic-selling at a loss.

Others have raised valid points as well (concentrated risk, not much different from buying at the current price, etc.)

[simplesimon]

I think OP means high beta - volatility relative to the market.

I would not call this "panic selling at a loss". You're simply following your prudent strategy of diversifying into a mutual fund.

Could you elaborate on what you mean by "accumulating excess losses"? If you have losses then you get the benefit of writing off the losses.

[sep]

If this is a small percentage of your portfolio, I would wait til the stock recovers to sell it and invest it in the S&P. No one knows how long you may have to wait but I would argue time is on your side.