Why buying your company’s stock is way riskier than you thought

 

At many companies, if there is stock to buy, it will be offered to its employees with some added perks. A 5% discount on the purchase price of the stock is quite common, and as intended, is quite attractive. Who wouldn’t want a $100 dollar piece of pie for $95? In fact, sign me up for a 100.

The problem with this is the incredible risk and bias attached to it.

Whether you hate your job or you couldn’t be happier – the majority of people are going to think more optimistically about the place they work than a company with which they have no connection. In essence, they may suffer from confirmation bias and perhaps a bit of narcissism. Company X is the greatest company in the entire world! We’re all geniuses and we’re going to be the next Apple! I’m getting my company stock at the ground floor!

When removed from the situation and thinking more analytically, that same person might never have any interest in that stock because with emotion out of the equation they can better pick out the shortcomings and obstacles Company X will encounter. Of course it is possible for an employee to rationally evaluate the prospects of their own company but even if the future looks picture perfect there is a problem they will never be able to avoid – the risk.

Purchasing copious amounts of stock in your employer is analogous to going double or nothing on a hand of blackjack. Company X essentially becomes your sole source of income. You become reliant on them to pay your daily salary and with the stock purchase you are becoming reliant on them to pay for your retirement.

Imagine you start working at Company X when you’re 25, retire at 65, and you plan on living to 90. That’s 65 years you’ll be dependent on Company X. How many companies can you name off the top of your head that have been in business 60+ years without encountering any hard times? I’m having trouble coming up with one.

Even some of the biggest, baddest companies in the world go through rough patches (think Uber or ESPN) which are unexpected and can be quite detrimental financially or otherwise. Now imagine for a second you were employed the last 20 years by one of these companies (it’s a thought experiment – relax) and purchased a bunch of stock. They hit that rough patch leaving you laid off, and with the stock in the gutter. What if that stock never bounces back? You’ve just worked for 20 years, have nothing to show for it, and are now unemployed. That exact situation has in fact happened before.

In the late 90’s and early 2000’s, stock in Enron was jumping through the roof. They employed thousands of smart, hardworking people who never could have realized that the company was being built like a house of cards. In 2001-2002 due to shady business dealings and massive fraud the entire organization was brought crumbling down. 60 year old men who had worked there for decades lost everything with no hope of retirement any time soon. Enron had become the poster child of the internet boom and everyone was itching to buy in without realizing the devastation to come. It was sudden, unexpected, and devastating. And it happened to a major, well-established company. So why is your company any different?

Applying that logic to every individual company would mean that nobody should invest in any stock ever. However, when all purchased collectively and in (relatively) equal distribution the Amazon’s of the world counteract the Lehman Brothers. Diversifying further means separating current income (your day job company) from your future income (stock purchased companies). A dip in one of those income sources does not directly affect the other, increasing your chances of overall success and long term wealth.

Now is that 5% worth it?

You may also like...

3 Responses

  1. Darren says:

    Hi Brian,

    My dad worked for Lucent. At the height of the stock market bubble in the late 90’s, he put all his eggs in one basket and bought only Lucent shares, because they were “discounted.” His portfolio was worth just over $100K but he lost everything in 2000-2001 when Lucent got caught up like so many other companies with scandals.

    I would never invest in one company unless it happened to be Berkshire Hathaway a few decades ago.

  2. Steveark says:

    It might be worth it when you’ve already hit your FI target if you are willing to throw the dice. My company spun off part of its assets as a master limited partnership and offered employees a three day window, with no advance notice, in which we could buy the new stock at a fixed price before the public could begin to buy. I bought as much as I could buy with money gathered from liquid accounts and made a 50% return on my money when I sold it 9o days later. But unlike some employee stock purchase plans I was not required to hold the stock very long and it being an oil company IPO, my odds of success were much greater than just buying a standard stock. But it still was risky and therefore I only bought as much as I could afford to lose in case it all went wrong somehow. Ironically my company was very nearly purchased by Enron once upon a time, thank heavens that didn’t happen or I might have joined the many people whose retirement was just destroyed.

  3. Jacq says:

    My company’s employee stock purchase discount is 15%. For many of your reasons listed I only do 3% of my paycheck. They save the money up and 2x a year buy the stock. There’s more to the plan where the purchase is at the lower of the 2 rates from the previous purchase. That means if July 31 purchase was $1.04, and by Jan 31 stock prices are at $2, they’ll buy at $1.04 (plus 15% discount). Which is a gamble in itself, but could work out well.
    Like Stevark I’m not ‘playing’ with more than I can afford to lose. We can direct 15% of our paycheck to the ESPP, but 3% is good for me.
    I had stock from previous companies, but since it’s in the same industry I diversified into some other areas. I watched the dot com bubble burst when I was in college and do not want to be in that position. I keep my 401k in index funds etc, I don’t think they even offer company stock because it could get complicated. I’m a big fan of keeping my eggs in different baskets.
    Great insight in this post. Thank you.

Leave a Reply

Your email address will not be published. Required fields are marked *