There are countless ways you can strategize around how to best use your stock options. That can depend on:
- The kind of employee you are
- The type of options you have
- The decisions you need to make around your stock options
…and more, including your financial goals and specific needs.
But no matter what approach you take, the end result will be the same if you execute properly: now, or years in the future, after exercising stock options, you’ll have more cash on hand.
That successful stock option plan that results in more cash can be one half of a great financial plan. The other half?
Investing that cash appropriately, so you can maximize this opportunity and keep building your wealth to even greater levels. Here’s what you need to know and think about to succeed with this part of your financial plan, too.
The Purpose and Objectives of Investing Your Cash
Before you begin investing your cash after exercising stock options, you need to understand the point of putting your money in the market.
The goal of investing is to help you achieve your goals — which means you need to know what those are so you can invest appropriately.
Most people’s biggest financial goal is something along the lines of “fund retirement.” But as a tech employee with stock options, your financial situation is different and most financial advice written about retirement doesn’t apply to you.
When you have a million dollars or more in stock options, it’s time to go beyond retirement and think bigger.
That could be to generate more cash so you can buy a house, create wealth for your family, reach financial independence immediately, or explore moving from tech employee to entrepreneur with your own startup.
Again, think and dream big. This is a great chance to experience the life you really want.
If you don’t have any goals, that doesn’t mean don’t invest — it just means you have a clean slate to work from and a big opportunity to build wealth for something you might want in the future.
You should consider moving from that blank slate to a clear purpose with your investments so that, again, you can make the appropriate choices about where you put your money and how you allocate that cash among various assets.
Whatever your goals may be, the objective of investing is to increase the dollars you have at a rate that exceeds the loss of purchasing power. Said another way, investing helps you beat inflation.
The fact is, stuff gets more expensive over time. Real estate gives us a clear example of this. Even worse are current college costs, which oten far outpace the average rate of inflation in other areas of the economy.
When you generate a lot of cash from your stock options, you can’t just stick that in a bank and call it a day. That cash won’t keep pace with inflation.
Your job is to make sure that the stock option dollars you have today will buy you as much in 5, 10, 20, or 40 years as they will now — which means you need to increase those dollars by at least 3.69% per year on average.
What It Takes to Successfully Invest Cash After Exercising Stock Options
When you invest, you put your cash into various assets.
An asset is something you buy with the expectation that it will increase in value and provide you with a rate of return. Going back to our investing objectives, that rate needs to be equal to or greater than about 3.69%.
There are various types of assets you can invest in, including:
- Stocks
- Bonds
- Real estate
- Commodities
- Currency
…and more, including even more stock options.
Your return on investment in these assets will come from the aforementioned increase in value — or in the form of dividends, interest, or rental income (if you invest in real estate).
On the flipside of your earnings? Your costs. All investments come with some sort of cost (just like all investments come with some degree of risk). These can come from property management fees, advisor fees, trading fees, and so on.
One other huge expense of any investment is taxes. This is the most important cost to take into account, but it’s often one of the least considered. And it’s well worth spending a lot of time and energy putting together a tax strategy around your investments, because taxes are also the easiest of costs to influence.
It’s easy, but not always straightforward. The rules of the game are clearly written in the tax code — but it might take working with a professional to fully understand the right strategy for you, because the IRS isn’t exactly known for its clear and concise instructions and language.
Still, whether you muddle through the code yourself or work with an experienced tax advisor, the good news is you can work with those rules and save money on taxes. That keeps more of your investment return in your own pocket.
Choose Your Investment Approach
There are two — and only two — true investment approaches.
The first is a diversified approach. Taking this route essentially means you buy many assets. They may be all one asset type (all stocks, but all different stocks) or multiple asset types (a mix of stocks, bonds, etc).
The goal of diversification is to prevent losses, mitigate risks, and provide more consistent investment returns. It’s the safe, steady, reliable way to invest cash after exercising stock options.
The most common example of the diversified investment approach is something like a Target Date fund in your 401(k). The name of the fund includes a year that corresponds with the year you will reach retirement age, and it contains thousands of stocks and bonds in a single mutual fund.
Most mutual funds and ETFs use a diversified investment approach. But there’s also a different approach to know.
That’s a concentrated approach, and it’s basically the opposite of diversification. With a concentrated investment, you buy one asset with the goal of producing a large investment return. In this case, “large” means significantly more than you could reasonably expect from a diversified approach.
All employee stock options are a concentrated investment. You buy stock of the company you work for — which means you have one company, one stock, one asset. Most real estate is also concentrated. It’s the house you own — one house, one neighborhood, one city.
Concentrated, concentrated, concentrated.
Most investment advice cautions against concentration (and in fact there’s such a thing as “concentration risk” that most people want to avoid). That doesn’t mean it’s not the right option for you — because again, tech employees with stock options are different than “most people.”
What it does mean is you may not want to go the 100% DIY route on investing cash after exercising your options. There are a lot of decisions to make, pros and cons to weigh, and choices to get right the first time because there are no second chances with some of these opportunities to capitalize on building even more wealth.
If you want to get a little guidance and a second opinion on the best choices for you, seek out a financial advisor with experience in coaching tech employees with stock options through the process.