Risk Management Strategies for Concentrated Portfolios


“financial advisors must disclose the risks associated with securities concentration”

According to the Financial Industry Regulatory Authority (FINRA), brokerage firms are required supervise its financial advisors to ensure they provide customers suitable financial advice. Furthermore, there is a duty to disclose the risks associated with an over-concentration in particular stock and the responsibility to recommend risk management strategies to protect investors from the catastrophic risks of securities concentration. Investors who invest in stocks can protect their investments through strategies including diversification and hedging. Brokerage firms are obligated to give, and investors are entitled to rely upon financial brokerage firms for, competent, suitable investment advice in accordance with securities industry standards of care promulgated by FINRA rules and regulations. Unsuitable investment advice and/or failure to recommend risk management strategies are both legal causes of action that may be alleged in a FINRA arbitration claims for damages.

FINRA sales rules and regulations require brokerage firms to supervise its financial advisors who owe the duty to their clients to only provide suitable investment recommendations based on relevant facts concerning the client’s age, net worth, income, tax status and investment experience. Brokerage accounts that are concentrated in a security, for whatever reason, require a recommendation to implement risk management strategies to protect the value of the concentrated stock position. Brokerage firms are required to supervise the activities in brokerage accounts, including the monitoring of levels of securities concentration in brokerage accounts. Losses from securities concentration can be attributed to the failure to adequately supervise the financial advisor, including whether risk management strategies were recommended to the client. Customers of a brokerage firm are entitled to rely upon brokerage firms for competent, professional investment services and the supervision of its financial advisors.

Investors maintain concentrated stock positions for a variety of reasons including, Rule 144 restricted stock grants, employee stock option, tax liabilities, or any number of considerations. Risk management strategies exist that are suitable for any investor who holds a concentrated stock position. Brokerage firms must supervise its financial advisor to ensure they recommend suitable risk management strategies for an investor’s particular circumstance.

The following risk management strategies are widely known and any number can provide suitable management of the risks of a concentrated stock position. The following risk management strategies are frequently available through full-service brokerage firms:

  • Stop Loss Limit Orders
  • Short Sales
  • Protective Puts
  • Zero-Cost Option Collars
  • OTC Option Collars (European Style)
  • Synthetic “Proxy” Hedge Transactions
  • Variable Prepaid Forward Contracts
  • Equity Swaps
  • Exchange Funds

The Klayman & Toskes, P.A. can help you determine whether an investment loss is the result of a failure to recommend or implement risk management strategies for concentrated stock positions in a brokerage account. If an investor suffers losses as a result of securities concentration they may be able recover their losses in a FINRA arbitration claim for damages.

Do you have a case?

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