A few nights ago, I finally got a chance to watch Enron: The Smartest Guys in the Room, a movie that perfectly depicts the rise and fall of what was once known as a great company. In the movie, one scene is particularly ominous: The head of HR at Enron is asked if employees should put all of their 401(k) money in Enron stock, to which she enthusiastically replied “Absolutely!”
Sadly, we all know what happened next. Employees who had been dutifully shoveling money aside saw their retirement savings all but disappear overnight, along with their jobs. Although Enron offered many investments other than Enron stock, few could resist temptation to invest more heavily in the ill-fated company. Are you making a similarly foolish bet with your own company?
Mistakes People Make with Their Company Stock
In my experience, there are three major mistakes that people make with their company stock:
- Holding too much company stock in your 401(k). According to the Employee Retirement Security Act of 1974 (ERISA), there are no restrictions on the amount of 401(k) assets that can be held in company stock.1 Too much of a single stock, no matter how strong of a company, is generally much more volatile than an index or mutual fund. Remember that your 401(k) is for your retirement, so of all the places to take the investment risk, this can be the most dangerous.
- Not exercising and selling stock options and restricted stock. You already have your salary tied to this company, so treat these as just another form of compensation. Most of these are on a vested schedule anyway, so there might be more opportunities to benefit from a stock surge with other unvested shares.
- Not taking advantage of an Employee Stock Purchase Plan (ESPP). Most companies discount their stock to employees as an incentive. So take some non-401(k) money and buy the shares, then sell them.
As you get more and more invested in your company, my recommended course of action is to keep taking chips off the table. Take that money and invest it in a broadly diversified portfolio. Spread the risk rather than risking everything on one company.
Don’t Let Familiarity Cause You to Underestimate Risk
I know what you are thinking: “I know my company is going to do really well and that the stock is going to go up.” But, beware of our affinity towards things we know. From a psychological perspective, many investors have a familiarity bias towards businesses that are visible to them, which can lead to an underestimation of the risk of the investment. I would encourage you to treat your company like any other investment and make sure that you are not overexposed to it, particularly with regards to retirement savings. Remember that Enron employees had over 57% of their 401(k) assets in company stock, which dropped in value by 98.8% during 2001.2 That is a retirement setback no one should have to take on.
So take a step back and ask yourself if you are letting too much ride on one investment. Your company may not be the next Enron, but why risk it?
Sources
1. http://www.dol.gov/ebsa/publications/fiduciaryresponsibility.html
2. http://www.finra.org/Investors/ProtectYourself/InvestorAlerts/RetirementAccounts/p013381
