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A good mental game to play to counteract the endowment effect[1] if one ever ends up holding $[some_large_number] of [tech_stock] is to ask yourself "If I had $[some_large_number] in cash, what % of it would I spend investing it in [tech_stock]?"

Very very rarely will you find yourself saying 100%. Act accordingly.

1. https://en.wikipedia.org/wiki/Endowment_effect

This is the most succinct phrasing of the best advice on "How much to value stock [options]" that I've ever read. Thank you.

It's interesting to use this reasoning in the context of tax-avoidance that the parent mentioned. Would you rather have $[some_large_number] of cash, or $[some_large_number + some_large_numer*(tax rate)] in [tech stock]?

Indeed. I don't think that the question I posed is the only question worth considering. Taxes matter and should be paid attention to.

Really, stepping up to an even higher level of abstraction I think the most important advice is to pay attention and think about your options. I think that far to many people fall prey to inaction and sticking with the status quo simply because it is easier.

Exactly.

It's far from obvious whether it's better to be 25% poorer with diversification.

But you're not 25% poorer, because your basis is now stepped up. In order to access the value of your current shares, you're going to pay the taxes. You either have $100 on paper and owe $25 on it, or you have $75 on paper and owe $0 tax on it.

Unless you think the tax rate is going to be lower in the future, once you've hit the long-term capital gains threshold, I don't see a reason to believe that paying taxes now and switching investments is worse than holding investments and paying all the taxes later.

The longer you can put off paying taxes the longer you can keep that portion of the money and earn a return on it.

There's also an annual allowance (in the UK anyway), so you can sell enough to make 11k (approx.) profit a year before capital gains tax kicks in.

Yes and no. If you hold a stock you avoid paying taxes on it and if that exact stock goes up, you "win" because you get more for it later. However there is no way to get a "return" on the capital that is tied up in the stock in some other way without some shenanigans. One dubious way was taking a loan out at the full value of the stock (stock is collateral) and then using the proceeds from the loan to invest in other funds. Back when day trading was "the thing to do" I met a guy who was full of these schemes and like the mortgage crisis later, when the crash came I'm not sure how they unwound, even if they did.

Sorry for being pedantic, but wouldn't that be $[some_large_number + some_large_numer*(1 - tax rate)]? :)

I think this is actually a very real problem. What would happen if I could sell one investment and immediately buy another investment vehicle and not have to pay taxes till I transform it to something that's obviously not an investment. If done right this should just make the market more efficient because it prevents lock in.

This is possible in some circumstances with real estate - it's called a 1031 exchange, and you can sell one piece/set of real property, roll the profits directly into purchasing another piece/set of real property, and not owe capital gains taxes on the profits from the first sale, although they will be owed if you eventually sell the second set of properties for cash.

In California, and across some counties, you can also move your lower property tax assessment thanks to prop 60/90[1]

[1] http://www.boe.ca.gov/proptaxes/faqs/propositions60_90.htm#1

This is a fun game in many domains. I have friends in Vancouver who have benefited greatly from the housing boom there. I encourage them to answer the question, "If I had 1.5 million dollars, would I spend every penny of it on a 1000 sq/ft house in Vancouver?"

Probably not; yet, they hang on.

This is not the same - if you sell your house you have to buy a new one or rent, and unless you're willing to move, you will be paying just as exorbitantly as the person who bought from you. Most people aren't willing to uproot their entire lives just to make a buck on their inflated house price.

No, this is not a good comparison. The price rental calculators tend to show renting is the correct option in Vancouver.

If it's paid off, it's perhaps fine. But many people owe mortgages on those houses. They will be in for a world of hurt if house prices drop. I.e. The exact scenario we are discussing here.

Rental can be a good move, but as a rational decision it should include the possibility of future price increases. Buying does this, you have covered yourself against all future increases, and accepted the risk of all future decreases. That is smart if you are committed to a location for non rational reasons like your kids are happy at school or you like it.

Agree that holding mortgages that expose you to negative equity risk is a big gamble. Like stocks (real stocks, not options or non-listed equity) it's actually a good gamble if you will be able to cover a 5 year price dip. If you are likely to have to do a distressed sale at a stress point you are setting up a big loss - smart to take the risk if you are in your early 20's (the upside is great, you'll be ok if you bust) but dumb if you are >45.

>Most people aren't willing to uproot their entire lives just to make a buck on their inflated house price.

What I'm suggesting is that that's the irrational part. They should be thinking about this decision as though it's an offer of a million dollars to move to Austin, TX (because it is).

Interesting! But it isn't obviously irrational to decide to turn down an offer to move for a million dollars. If your stated priorities are to accumulate as much wealth as possible, then it might be irrational to not move, but there are other sets of priorities for which that is not the case. I would definitely take a $1M offer to move to Austin right now, but I also wouldn't want to indefinitely run my life based on real estate arbitrage opportunities, and that isn't irrational, it's just prioritizing some things above wealth.

In California there is also the reset in your tax base. So if you sell your house and buy a new one[1] it resets your tax base to the new price. Now renting out your house and buying a new one is a different strategy entirely.

[1] Yes some counties will allow you to "keep" your prop 13 tax rate one time.

True but you lose your Sec 121 exclusion for the years you rent it out.

... since I don't poop where I eat, that percentage is always 0 for me.

I don't think I'm cut out for the startup world.

Bird in the hand is worth two in the bush.

I know that in the fog of war, it's easy to get fixated on what could be vs. what you actually have NOW.

About 3 years ago I was holding a very large amount of stock in a startup. The primary investor and ceo offered to do some of the early employees a solid by allowing the primary investor to purchase some shares directly from the employees.

I decided to sell about 10% which gave me a nice payday, but I decided to hold onto the remainder because 'it could be worth so much more.'

Needless to say I'm sitting on some stock that is virtually worthless. While the company in question is still active and doing ok, the real value has dropped, there is no IPO in sight, no secondary market sales opportunity, and the long term prognosis isn't great.

If I'd only had asked myself that question then, I would have sold at least 60% or more.

* I was looking at "losing" 25% of the value of the investment by turning it into cash. Ridiculous right? Well now I think it is ridiculous.*

Reminds me of a stock options seminar I went to, presented by an actual Fidelity options trader. The question came up along the lines of "so something something, what would the tax implications be?" His answer was something that I remember to this day, and remind myself when I'm worried about "something something capital gains": "I'm the worst person in the world to ask about investment taxes. If I'm getting taxed, then I'm making money, and that's as much thought as I give it."

I couldn't even tell you the capital gains rates at this moment. If I need to get out of a position, I get out. And to quote the above professional options trader, if I take a tax hit then I made money. If I try to avoid the tax hit by holding on for a few more months to avoid short term capital gains, I might very well lose money in the interim. So I just don't pay any attention anymore and settle up with the government come April.

> If I'm getting taxed, then I'm making money, and that's as much thought as I give it."

This is true, but if you are making money and getting tax, but if you are also losing money and not reducing taxes (because you are trading a lot and getting gains taxed some years but not saving on taxes in down years), you will hurt yourself.

You only make money after a sale, up to that point your still gambling. AKA a big stack of chips is not the same thing as a big wad of cash you have to actually leave the casino without blowing it.

> You only make money after a sale, up to that point your still gambling. AKA a big stack of chips is not the same thing as a big wad of cash you have to actually leave the casino without blowing it.

Yes, but I want to sell off to diversify the kinds of chips I'm holding. At the moment, the tech stocks I'm holding on to as a result of work are doing quite well, but I'd like to insulate myself from risk anyways.

Tax is unavoidable, but the difference in rates is big enough to be worth some risk, I think. A 10% drop in price is no worse than paying short term instead of long term rates.

but the difference in rates is big enough to be worth some risk

It is, and I won't even try and argue against that. However, short term capital gains are taxed at the same rate as my ordinary income. In the worst case, when I make money my tax situation is no worse than if I made the money working. That's good enough for me to just not spend the CPU cycles. Yeah, yeah, in some situations I'm leaving money on the table. I don't care because I'd rather spend the limited cycles I have for investing in finding the next good pick, not tax avoidance. At the very best, I can save 28% on taxes. Spending my time finding good companies, however, can do much better than that (see: TSLA, AAPL in the 2000s, et. al.). I'm also lazy, and find tax stuff boring in comparison to evaluating whether now is a good time to get into Lending Club.

Another way to look at it is with an eye toward always preserving capital. IOW, if I'm getting taxed I'm making money (and therefore not losing it). However, I could screw around with some tax avoidance scheme and end up losing money. I'd rather break even or slightly below than lose money; live to trade another day. So most of the time I set an 8% trailing stop and call it a day, let the machines worry about it.

This isn't investment advice, and even if it were there are a lot of unspoken assumptions that I haven't outlined. It's probably not even the smartest way to maximize gains. But for me, personally, it's the right combination of not overthinking it, not spending time obsessing over my portfolio, and still making positive returns. And last time I looked it up, I've had two negative years in the last sixteen. So it works for me (though at my age I need to start looking less at the TSLA's and more at those sexy, sexy bonds).

I thought all options transactions got short-term capital gains treatment.

(Most of them are naturally short-term, but even LEAPS I thought were taxed as STCG.)

No, LEAPS are taxed at long-term rates (assuming of course a year and a day duration or greater).

> I would say "sure this stock is 'worth' $500K but if I sell it I'm going to have to pay a huge amount of tax on it and that will net out to a smaller number." I was looking at "losing" 25% of the value of the investment by turning it into cash. Ridiculous right? Well now I think it is ridiculous.

Not that ridiculous! Give yourself some credit. One of the reasons taxes work this way is to incentivize people to keep their money invested.

If you're holding all of your assets in a single stock solely because you don't want to take a tax hit, then yeah that's a really bad strategy.

Absolutely, when times are good, pay off your house. This may go contrary to most investing advice, but owning your home is a great safety net.

It can make good investment sense too. Remember, someone with a lot more money than you decided that they couldn't make a better return than financing your home loan. Paying off a loan is an illiquid investment, but it's the highest guaranteed return you're going to find. And so what if you lose the tax deduction for interest? You'd pay taxes on any alternative investment anyway, so it's a wash.

Right. I run into a lot of people who will argue passionately about how stupid it is to pay down your low interest mortgage early given alternative investments.

At the same time, many of them will not agree that taking out a HELOC so you can play the stock market is a good idea.

The two situations aren't really equivalent given liquidity, etc. But at the margins they're pretty much the same thing.

Makes sense if you've already got a mortgage, but house buying seems tricky to me.

With property tax and home owners association fees even with your house paid off you still basically have a permanent rent. I guess in some sense you're playing the housing market, but seems like having more options and ability to move is a pretty good deal. Renting also seems a lot cheaper (even with bay area rents).

> someone with a lot more money than you decided that they couldn't make a better return than financing your home loan

I'm not sure this is how fractional reserve banking works. Banks only supply a fraction of depositors money against a mortgage with the majority supplied by the fed. They basically make their money by investing other peoples money (including fed "imaginary" money) and by keeping a relatively low default rate.

Loans may be originated by banks, but most get packaged and sold as securities. It's those securities that I'm talking about.

That's not how fractional reserve banking works. It works by getting money in deposits and then loaning out most of it, keeping only a fraction in case some depositor wants his money back.

The reason that that act creates money is that the money in the deposits can still be requested by depositors at any moment -- it's still fully liquid, and thus the depositors still have their money. But so does whoever borrowed money.

The effect is compounded a lot by the fact that the borrowed money will also end up in some bank account almost certainly, and be almost entirely lent out again, and so on.

Nit pick...

Banks create the money when they create the loan. Assume the simple case where the buyer of the house has an account at the same bank as the seller. The bank puts an credit on its books for the loan and a debit on its books for the sellers account.

The money in the sellers account is newly created money. They didn't have to ring up the Federal Reserve or get permission. They got the permission when they got their banking license.

Let's assume the buyer now wants to move that money to another bank. He transfers his deposit from bank A to bank B. Bank B now has excess funds on its books and deposits it at the central bank. Bank A now has a deficit and goes to the central bank for a loan. The central bank loans money on deposit from Bank B to Bank A and everything balances.

Now let's say he wants to convert it to cash. He goes to Bank B and withdraws his deposit in cash. Bank B then goes to the central bank and requests the funds. The central bank then gives a loan to the central government for the amount of cash that it needs. Then it takes that loan to the central government which issues cash in the value of the loan. Bank B then exchanges its deposit at the central bank for cash and gives it to the customer. The central bank now has a deposit from the central government in the amount of the loan from Bank A and so everything, again, balances.

The only restriction that banks have on creating money these days is the ratio of equity against the entire size of their balance sheet.

Bank A doesn't need to get a loan yet after the money is moved away to bank B, after all they kept a percentage of the original deposit, so they have sufficient reserves. Right?

Reserves are deposits with the central bank or cash sitting in the vault. Reserves are created when the central bank makes a direct loan which is typically to the central government or through the discount window (where they buy a loan at a discount from a member bank).

Reserve requirements essentially mean that each bank has to have some amount of deposits at the central bank that is proportional to the size of it's balance sheet. In theory that limits the total amount of money to a multiple of the amount of base money which is controlled by the central bank.

In practice central banks have been moving away from reserve requirements as a way to influence monetary policy and some countries have eliminated reserve requirements entirely. In the US cash and reserves doesn't pay interest and so acts as a tax on the banking system. When market rates are high like they were in the 70's and 80's this tax can be significant and at some points lead to banks leaving the Federal Reserve System all together and the creation of non-bank competitors for deposits such as money market funds.

Today most banks balance sheets are limited by regulatory capital ratios rather than reserve requirements.

A history of reserve requirements can be found here that lays it out in detail. I highly recommend it if you find yourself unable to sleep on a plane. Skip to the end if you are interest in current history:

https://www.federalreserve.gov/monetarypolicy/0693lead.pdf

Unfortunately there is a lot of bad information (and conspiracy theories) about fractional reserve banking on the internet which in many cases is outright wrong and in the best cases no longer relevant.

Paying off a loan that has 6% annual interest is mathematically equivalent to investing money that has 6% guaranteed return. When you look at it that way it's a great incentive to pay off debt

Exactly, and actually if you take tax rate into account it looks even more appealing, e.g. if your marginal tax rate is 50% (as it is sometimes in Europe) you would have to earn 12% on your money before it is more beneficial than paying down your mortgage/loan. Hard to beat that Sharpe.

Risk assessment is really hard for individuals. If we did it rationally we'd never get anywhere. But I think "money in the bank" and "defense in depth" are pretty good rules of thumb. In the end your goal on any one investment is to not lose.

I don't have any vested equity yet (very early career) but have decided upfront on a strategy of "sell every share the moment you can, reinvest in diversified index funds."

Being long on your employer just seems like a really stupid idea. I don't consider myself likely to be fired for incompetence and I'm not high enough on the ladder to be fired for political reasons. If my income stream ever goes away, chances are it'll be because my employer stock is doing the same.

Word of warning, from experience: don't ever think you're too low on the ladder to avoid politics or the implications thereof. I've seen plenty of "individual contributors" and "front line managers" become collateral damage in some bullshit company politics game. The worst part is that there was nothing they could've done to avoid it, other than either climbing the ladder to engage in the game and hope for the best, or simply leaving for greener pastures before the pendulum knocked them out. Unfortunately, if you're not paying attention to the politics in the first place, there's a good chance you won't see it coming.

Otherwise, I totally agree with your statement here. Especially considering that your employer is not likely to be up-front with you when business gets bad (at least, not right away), you can wind up with the "corporate blinders" on and not notice the signs around you that your stock is about to tank. I've only worked for three different companies at this point in my career, but the quarterly "business group communications meetings" always felt much more like pep rallies than real status updates, meant primarily to boost morale rather than to inform. In this day and age, to place trust or loyalty in your employer is to misplace it, as employers are highly unlikely to place either of those things in their employees.

What I'm trying to say is: your logic here is sound, and your strategy is a good one, but be careful about ignoring corporate politics.

Selling immediately isn't necessarily the ideal plan. Often when shares vested in my career they were worth only a bit more than the "strike" price.

Often times I have "sold to cover" which is to say exercised the option, and immediately sold enough of the stock to cover the cost of exercising the option and paying the tax. At that point you have shares in your company in your brokerage account where the "basis" is the fair market price when you exercised them. A year and a day later (to convert to long term gains) I've sold half the shares.

When my RSUs at Google vested they would automatically sell some to pay my tax obligation, but I would instruct them to sell half as well. Same philosophy. Get some of the money diversified, keep a bit of skin in the game in case it had a gain.

> When my RSUs at Google vested they would automatically sell some to pay my tax obligation, but I would instruct them to sell half as well. Same philosophy. Get some of the money diversified, keep a bit of skin in the game in case it had a gain.

There is no difference (except for a few bucks in broker transaction costs) between doing this and selling ALL of your RSUs as they vest ie "auto-sale" and buying Google shares on the open market.

Although the latter emphasizes the decision you are making to concentrate on a single issue rather than diversify.

> I would say "sure this stock is 'worth' $500K but if I sell it I'm going to have to pay a huge amount of tax on

How is that possible? After 1 year, you are in Long-term capital gains territory, so selling now vs later is tax neutral (except for gains on gains, but that's rather minor unless you think you are in a growth stock)

The only reason to delay selling for tax reasons is if you also have a high income (over $300K?) that boosts your Long-term capital gains rate

The higher long-term capital gains rate is a recent addition to the tax code starting in 2013.

During the dot-com bubble, long-term capital gains rates were essentially the same for most brackets (only the absolute lowest bracket had a lower rate)

With options (at least ISOs), you don't qualify for the long-term capital gains rate until you've held the shares for at least a year after exercise AND waited at least two years from the grant date to sell them.

It's possible that the second requirement is what affected ChuckMcM.

> The only reason to delay selling for tax reasons

What about if you live in a state with high income tax and no capital gains relief from said rate, and you think that maybe at some point in the future you might leave that state for one with a lower income tax? For example, moving from California to anywhere else.

As others have mentioned, taxes are vary from jurisdiction to jurisdiction. I was fortunate (or not :-)) to have a mother in law who was both a CPA and ran a tax business. In my case I got to consult with her on a variety of "what if I did ..." scenarios. In the case of my Sun stock it was clear of the option restrictions but having been acquired (remember that $10M+ of "future" wealth?) I had a pretty incredible "income" on paper. But really it was all about restricted stock (as part of the acquisition) and 89b elections etc.

Anyway, the meta question of whether or not to pay off my house was real (my mother in law advised against, after all you get the mortgage deduction). The endowment question is also good and I find myself in the Vancouver situation in a house that I probably wouldn't spend as much as its "worth" to live in it. Future risk/reward never goes away.

I had somewhat similar feelings about the taxes (different company) (went from $7M to < $2 over the 6 month lockup period alone!)

Ended up paying a bunch of taxes i likely could have avoided and got something out of it (but it was painful) Now over 10 years on after the "corrections / bubble burst" I'm finally about back where I started ... oh well I guess. I have a house and a job and all my limbs ...

Hindsight is 20/20 and all that, but in case anyone finds himself in a similar position, there are hedging strategies that avoid the 1259 constructive sale rule. You have to take some risk but you can put a floor on it.