How to Buy Company Stock

Here are some thoughts from the great personal finance book Grow Your Money!: 101 Easy Tips to Plan, Save, and Invest. Their thoughts on buying company stock are as follows:

If you work for a company whose stock is publicly traded, it's way too risky to put more than a dollop of company stock in your 401k plan. The financial fortunes of some loyal employees have and will continue to be decimated by a plunging stock, a la WorldCom and Enron. Not only did many employees of failed companies lose most of their retirement savings, but they lost their job to boot.

If you want to own the stock, do so through the company's stock purchase plan. Many plans offer the stock at a discount that is too good to pass up even if you sell the stock shortly thereafter.

Unless you have a tremendous amount of money, try to limit your holdings of a single stock -- your employer's stock or and single stock, for that matter -- to 10 percent to 20 percent of your total investment holdings.

Here's my take on these thoughts:

1. I'm tracking with him 100% on buying company stock through a discounted purchase plan versus doing so in a 401k. I don't work for a publicly traded company, but when I did and had these options, this is what I did. We got the stock at something like a 10% discount, so I bought every time I had the chance. Then I sold the stock as soon as I was allowed to do so (I think there was a three-month holding period.)

2. I had always heard the rule-of-thumb was 5% to 10% of your total investments in your own company stock, with the preference being 5%.

3. What's this say about people like Bill Gates that have 99.9999% of their fortunes in one stock? Or does it even matter since they are tremendously wealthy?

Comments

[Edmund]

Any idea how that translate if you work for a hedge fund?

Instead of buying "stocks" of the company, we have the options to put money into the fund. Historically we have been outperforming the market by a long shot (last year the investor return was 80%+). I am confident that the expected return is better than the market, but once again it's the concentrated risk that I am worried about.

[aa]

Bill Gates has $76.5 billion of Microsoft stock but he also has a $6.5 billion in two Gates foundations, and another $5 billion in Gates' personal portfolio. His personal portfolio has 70% or $3.5 billion invested in short-term governments and corporates, with a small weighting in foreign bonds.

In the other words, even if Microsoft goes bankrupt, he still has billions to live on...

[FMF]

Edmund --

No idea...sorry.

[Eugene Krabs]

I am completely with you on points 1 and 2.

Point 3, Bill Gates is well-aware of his net worth being tied so closely to Microsoft. Heck, his personal friend is none other than Warren Buffett. Of course, Buffett's entire net worth is also tied to his own company, but Berkshire, being a holdings company, holds a diverse portfolio of other companies....

So, I'm sure Bill Gates is well-protected somehow, though I am not sure how exactly. For the rest of us in real world though, you never want to tie your entire fortune to just one company. Even if you know it inside-out, it's just too dangerous to risk an Enron, WorldCom, Lehman, Bears, you name it....

As for Edmund, I don't know the exact answer there either, but from an investor point of view, it's always good to see hedge fund managers putting their own skin into the funds they manage. The basic exercise here though, is that you want to be able to find a good discounted way to take advantage of stock options. For example, the author bought them at a discount, and then turned it around and sold them for a profit. Depending on the details of the stock program and market conditions, that's not a bad idea at all.

[Apex]

Bill Gates has no where near 76 Billion in Microsoft stock.

He holds 713,136,862 shares @ $25 per share or $18 Billion in Microsoft Stock. Thats about 8% of the company and he used to hold as much as 25% when he was the CEO and at that time it accounted for almost all of his net worth, so he has divested some since he is no longer running the show.

http://finance.yahoo.com/q/mh?s=MSFT

People like Bill Gates made 99.9% of the wealth solely because of their company. They do a little divesting along the way but mostly they are making all their money from their business and riding it for all its worth.

If you get big enough to go public you do have a chance to divest a little bit but most people who run their own business have zero chance to divest. A farmer can't divest, an internet startup company can't divest, a restaurant owner can't divest, a real estate tycoon can't easily divest.

These are the things these business owners know and they need all their capital invested in the business to grow it (plus debt as the discussion evolved on a previous thread). If they succeed they end up wealthy in 25 years. If they fail, they get to start over with their dignity (hopefully) and a shinny penny. Thats the nature of business, divesting and diversification are impossible at the begining and later on still very difficult right up until you get out at the end.

(Interestingly Bill Gates, Larry Ellison, etc, who could do drastic diversification because their companies are public tend not to do so until they leave their business).

Of note is a quote from Warren Buffet which I think has a lot of truth and explains both those who succeed in business and those who don't (except for a few cases of just random bad luck): "Wide diversification is only required when investors do not understand what they are doing." - Warren Buffet

[Eugene Krabs]

I think it's also noteworthy that Warren Buffett has said something along the lines of, "99.9% of all investors would be best served with just having their money in index funds." It's important not to under-estimate ourselves, but it's also important not to over-estimate ourselves.

And there's nothing wrong with being conservative, so long as you're approaching in intelligently. As far as stock pickers go, Warren Buffett is famous for being among the most conservative. So, the point is, you don't always have to take massive risks either to achieve decent net worth. Many Bogleheads (people who follow John Bogle's philosophy of index funds) are themselves retired millionaires who almost exclusively use index funds....

Volatility in itself doesn't create a path to success. Only reducing risk while maximizing gain (if it can be made practical in our individual situations) will increase the chances for success.

[Apex]

@Eugene,

I agree. Most people need to use index funds because they fall in the second half of Warren's quote.

I am sure that will sound harsh but there is no other logically consistent way for Warren to make both of those quotes.