Posted by on Jul 7, 2014 in Blog, Columns |

By Jason Zweig | 12:05 pm ET  Jul 4, 2014
Image Credit: Christophe Vorlet

Workers are cutting back on the stock of their own companies. It is a welcome sign of investment maturity.

Trimming your exposure to your employer’s shares is one of the most important decisions—but toughest psychological challenges—any investor can face. The wisdom of such a move has been made stunningly clear by the demise of companies like Enron, Bear Stearns and Lehman Brothers. In order to cut back, you will have to set your emotions aside and think hard about risks you otherwise might not be willing or able to recognize.

Even some people who work for Warren Buffett—arguably the best investor of our time—have gradually been reducing their holdings of Berkshire Hathaway ’s stock.

Financial disclosures filed at the Securities and Exchange Commission at the end of June show that the 401(k) plans for employees of Burlington Northern, one of Mr. Buffett’s largest holdings, had slightly more than 10% of their assets in Berkshire’s stock at the end of 2013, down from nearly 22% in 2009. Employees at General Re, the reinsurer Mr. Buffett bought in 1998, shaved their discretionary Berkshire holdings to 4.6% from 5.1% over the same period. (The SEC requires companies to file these disclosures only for retirement or savings plans that hold the company’s stock.)

According to two people familiar with the matter, Mr. Buffett doesn’t set policy on retirement plans for Berkshire’s subsidiaries, and employees make their own decisions on where to put their money.

If you worked for Warren Buffett, why would you not want to put as much of your money alongside his as you could? No one can say for sure, but his employees are probably influenced by the nationwide trend to cut back on company stock.

The collapse of Enron in 2001 and Bear Stearns and Lehman Brothers in 2008 brought out tragic tales of employees who had nearly all their retirement assets riding on those firms’ own shares. The Pension Protection Act of 2006 imposed new restrictions on companies offering their stock in their retirement plans.

As a result, companies have steadily been making it harder for employees to load up on their own stock in 401(k)s. Burlington Northern, for instance, doesn’t permit its staff to invest more than 20% in Berkshire’s shares.

Between the end of 2005 and mid-2011, the most recent data available, more than one-third of companies that offered their own stock either removed it from the retirement plan or stopped permitting new investments in it, according to fund giant Vanguard Group. And none of the more than 1,350 companies tracked by Vanguard during that period launched any new company-stock funds in their plans.

A decade ago, 36% of companies offering their own stock as an investment option in their 401(k) plans required that matching contributions be initially invested in their own shares, according to Aon Hewitt, the benefits-consulting firm. Today, only 12% do.

While the problem of holding too much company stock has dwindled, it hasn’t disappeared. As of 2012, according to the most recent available data from the nonprofit Employee Benefit Research Institute and the Investment Company Institute, a fund-industry trade group, 12% of employees who could invest in company stock had at least half of their 401(k) assets in it. And 6% had 90% or more of their money in company stock.

The company you work at is so familiar to you, it can be hard to think objectively about it.

Meir Statman, a finance professor at Santa Clara University, points out that familiarity isn’t the same as superior insight.

You know quite a bit about your company because you work there. But that doesn’t mean you know more about its customers, suppliers, products, technologies and competitors than the 100 million people who collectively price its stock every day.

Familiarity also “fools people into thinking their company is safe,” says Prof. Statman.

In 2002, right after Enron’s bankruptcy, I urged an audience of individual investors to “avoid the next Enron” by diversifying out of their own companies’ shares. One person protested that he knew with his own eyes and ears that his company was safe—while diversifying into other stocks would inevitably expose him to owning at least some of the next Enron.

You might be right that your company is the next Google or could never be the next Enron, says William Bernstein, an investment manager at Efficient Frontier Advisors in Eastford, Conn., but “the consequences of being wrong are dire.”

By diversifying out of company stock, you forgo the hope of a spectacular gain, but you also eliminate the risk of being wiped out if something goes disastrously wrong at your company.

You might dismiss the risk of an Enron-type implosion as ridiculously far-fetched. But bankruptcy isn’t the only risk that your company faces, nor the most probable.

Far more likely is what Daniel Egan, director of behavioral finance at Betterment, an online financial adviser, calls “tectonic risk”—the chances that your company could be hurt by new competitors, regulations or technologies that fundamentally alter the profitability of the business.

These risks tend to blindside everyone, including chairmen and chief executives; they can surely blindside you, too. Having more than a tiny sliver of your retirement money in your company stock is an idea whose time has come—and gone.


Source: The Wall Street Journal