Don't invest too much in your own company if you don't run it

Aug 11, 2007 by

Many companies offer 401(k) plans in which there is a corporate matching agreement. 401(k) plans typically offer employees a menu of investments in which to place their savings. Investing in company stock is typically one of the options offered, and until recently, was the default option. In my opinion, it is unwise for people who do not play a strategic role in a company to have a substantial stake in the company’s performance.

Why diversify?

The problem with primarily investing in your own company is that by doing so, you are further exposing yourself to the risks of that company. Imagine you are an employee at Enron, Tyco, or one of America’s other illustrious companies. Scandal hits. First, you lose your job. Then, to make matters worse, if you are heavily invested in company stock, you lose your savings too.

Why employers want you to own company stock
Employers want you to own company stock in order to align your incentives with those of the company. By owning stock, when the company does better financially, you do better financially as well. This is all fine and sensible for people who control the direction of the company. For the average worker, whom has only marginal impact on the company’s performance, it makes far less sense. While owning shares does psychologically align employees with the performance of the company, if each employee’s performance only has a “drop in the bucket” impact on the company’s financial performance, there is little a single employee can truly do to impact the direction of his company.

What should you do?

I would advise people to diversify their savings as soon as possible, and if necessary, as soon as the employer match has vested and will allow it. It makes sense to keep a token amount of company stock, even if you have minimal control over performance, in order to feel that you have some skin in the game. However, it is probably unwise to have company stock play a substantial role in your portfolio, as your financial future is already heavily dependent on company performance.

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