i want to hedge the money in my company share save..

milesgiles

Long story short:

3 year option
Ftse 100 company
Option date 1 November 2019
£400 per month saved
Currently trading at 4.5 times the offer price

*no free shares in this scheme, you just buy at the discounted option price in 17 months time

Essentially, I'm at my pain threshold in terms of what I could lose if the shares reverse, and would like to hedge against it. To complicate things, i obviously want to pay as little tax and will use my 20k isa allowance soon after the 1 November and my next 20k at the start of the new tax year i.e. 4 April 2020.

is it possible to arrange the put option(s) around those dates? The total profit is around 55k and I don't need to hedge all of it, but it would seem to make sense to hedge at least those two lots of 20k..any pointers?

Wildsound

My point may or may not be very helpful, but I was really frustrated to see ex-colleagues of mine cling on to their sharesave scheme shares after the point of exercising their options as they had seen some gains and thought it would continue. In reality, what they were doing was disproportionately focusing their wealth into a single UK equity stock, thus massively increasing their risk. Needless to say, when the financial crisis hit, their 6-figured valued shares soon became 4-figures.

Not to say that these types of options aren't a good way to save and generate growth, but at the point where you can sell them, I would encourage you to do so and then use the proceeds to buy into a diversified fund which matches your risk profile, instead of magnifying your risk in a company which could potentially go "belly-up".

Of course, tax should be a consideration when you come to sell, but it shouldn't be all about it.

milesgiles

Wildsound wrote: »

My point may or may not be very helpful, but I was really frustrated to see ex-colleagues of mine cling on to their sharesave scheme shares after the point of exercising their options as they had seen some gains and thought it would continue. In reality, what they were doing was disproportionately focusing their wealth into a single UK equity stock, thus massively increasing their risk. Needless to say, when the financial crisis hit, their 6-figured valued shares soon became 4-figures.

Not to say that these types of options aren't a good way to save and generate growth, but at the point where you can sell them, I would encourage you to do so and then use the proceeds to buy into a diversified fund which matches your risk profile, instead of magnifying your risk in a company which could potentially go "belly-up".

Of course, tax should be a consideration when you come to sell, but it shouldn't be all about it.

To be clear, I am selling. I agree. No reason to hold a share I know essentially nothing about. But I want to hedge against a 'paper' loss between now and the option date, and the start of the next tax year, as explained.

System

You have an option so you want to hedge a notional profit. You seem to be counting your chickens before they hatch. You could buy a put option if they are available in the company, but you will find that it is expensive:
https://sglistedproducts.co.uk/
You cannot put covered warrants in an ISA.

bowlhead99

On the tax side - remember what you can fit into the ISA and get tax exempt is £20k of value each tax year rather than £20k of profit; if the whole lot is worth £70k against your £14-15k of cost, you'd only fit 2x£20k in the ISAs and still have £30k to sell outside the ISA. That £30k being sold might include a gain of well over £20k, and although splitting the sales over two tax years will allow you to use two lots of £11,700 annual CGT exemptions, there would still be a little bit of tax to pay.

And actually although you can move the first £20k value of shares directly into an ISA once you exercise the option, then sell them within the ISA for no tax whatsoever, such in-specie transfers are supposed to be done within 90 days of exercising the option to get the shares, so you might not be able to do a direct ISA transfer by waiting until April if you exercise the option in November. To get the money into the 2019/20 ISA allowance you would need to sell outside the ISA to get the cash, and then would be paying CGT on that disposal.


Anyway, to your actual question

An easy way to do a hedge is to place a 'sell' spreadbet on the company through a spreadbetting company like IG index. Essentially making a bet that the price at say 30 September or 31 December will be lower than the stated price for (example), £100 per penny of share price. If the share price ends up being 7p lower than what the market currently thinkts it will be, you win £700. If 50p, £5000. If you are wrong and it's up by 50p, you'd lose £5000. But your real-world shares would have gained, so you have an effective hedge. Wins and losses on such bets are tax free.

The above is a simplification as there is a 'spread' between the buy and sell prices in a spread-bet, in which the company makes its money. So if the real 'projected' price of the company at 30 september was £2.00, and you wanted to bet, you would have to say it would be lower than £1.9800 or more than £2.0200. If it closes at 2.01, you lose money either way - but not very much.

You can close the bets when the market is open so you don't need to wait until the exact maturity of the contract, you can get out early if you want. You generally can't get massively long maturities to keep you going until next summer, so will probably need to roll it over at some point (cash out at the initial maturity and buy in again, effectively paying the spread more than once).

However to place the bet you need to put money in your account as a margin as you will need a certain level of deposit if you are placing a bet that could win or lose many thousands. It's unlikely the share price will drop to zero or go up to infinity so you don't need to put 100% of the value into the account, but if you are not betting on a limited risk basis (fronting all the money yourself) you may need to be aware that they could ask you to reach into your pocket if the market moves significantly against your position. Which would be fine if you actually held the shares in the real world and could sell them, but you don't own them in the real world until November...

It would be neater (though perhaps more expensive in terms of price ultimately paid per pound of hedge) to limit your risk by buying options to sell (a 'put' option described by the poster above) at a certain price, the opposite way to how you have an option with your company to buy at a certain price. Rather than a standard spreadbet that moves pound for pound in both directions. Still, while options on the overall FTSE index are readily available, they may not be available for all individual companies and may not be cheap.


Ignoring spreadbets and spreadbet options the other thing offered by firms is 'contracts for difference' or CFDs. These are derivative contracts linked to the market price of the real shares, so are within the scope of CGT rather than tax exempt as bets (which may be useful if you are going to buy real-world shares with real world CGT bills attached; a loss on a CFD will reduce the tax on your sharesave gain). Effectively with a CFD you can hold a short or 'down' position in your employer, with a contract that says it is worth £x to you for every pence that the share price is lower than the stated price at maturity. These can be done on margin so you don't need to actually give the firm £70,000 or whatever of cash to cater for your company accidentally doubling in value between now and November, but the risk of making investments (up or down) on margin is that if your losses start to get large, they will make you put in more margin.

The problem with doing any kind of hedge to cover the downside risk of your large 'virtual' holding of shares, as highlighted by Economic, is that you don't actually own the shares yet...

Imagine if the share price today is £2 and you made some financial contract with a firm to sell 30,000 shares at £2 each. If the market falls a bit, great, you make money because you have a contract to sell £30,000 shares for £60,000 but you can buy them in the market for £50,000 and take a clear profit, so you just cash in the contract. While if the market price goes up to £2.50, obviously it's a pain that you have to sell 30,000 shares for only £2 each when they'd cost you £2.50 to buy on the market and fulfiil the contract, but actually they don't cost you £2.50 to buy in the market because you get them from your firm at a massive discount, and if they have gone up to £2.50 in the market you'll make a nice extra profit on the deal with work, so you can afford the loss to the CFD operator. All nice in theory, BUT

The problem comes where you place a big 'down' bet on your company shares and they double in value over the next three months. You face a big loss of tens of thousands on your 'bet', but you don't mind because you are going to make tens of thousand extra profit on the sharesave. However, the losses get so big that you have to close out the contract because you don't have enough cash in your bank to suffer any more potential losses. And then all of the sudden the share price crashes after you close the contract so you don't make the sharesave profits after all.

Another disaster would be if you bet on the price going down a lot and instead it went up dramatically, leading to a £50k loss position matched roughly by £50k of extra gains on the sharesave deal to mature in November.... but in October you get fired for gross misconduct and are not allowed to exercise your sharesave option, just withdraw the £14-15k of savings. Which are nowhere near what you need to pay the finance company to fix up the position where you had committed to pay them for a large increase in company value when you assumed you'd benefit from that rise.

milesgiles

Economic wrote: »

You have an option so you want to hedge a notional profit. You seem to be counting your chickens before they hatch. You could buy a put option if they are available in the company, but you will find that it is expensive:

You cannot put covered warrants in an ISA.

It's kind of like that, except the complete opposite. I don't know if the chickens will hatch or not, so I'm insuring myself against them not doing so.
I have a rough idea of what a put option will cost, it's a question of matching the dates up. I don't need the money on any specific date, I do need to avoid as much tax as possible.

milesgiles

bowlhead99 wrote: »

On the tax side - remember what you can fit into the ISA and get tax exempt is £20k of value each tax year rather than £20k of profit; if the whole lot is worth £70k against your £14-15k of cost, you'd only fit 2x£20k in the ISAs and still have £30k to sell outside the ISA. That £30k being sold might include a gain of well over £20k, and although splitting the sales over two tax years will allow you to use two lots of £11,700 annual CGT exemptions, there would still be a little bit of tax to pay.

And actually although you can move the first £20k value of shares directly into an ISA once you exercise the option, then sell them within the ISA for no tax whatsoever, such in-specie transfers are supposed to be done within 90 days of exercising the option to get the shares, so you might not be able to do a direct ISA transfer by waiting until April if you exercise the option in November. To get the money into the 2019/20 ISA allowance you would need to sell outside the ISA to get the cash, and then would be paying CGT on that disposal.


Anyway, to your actual question

An easy way to do a hedge is to place a 'sell' spreadbet on the company through a spreadbetting company like IG index. Essentially making a bet that the price at say 30 September or 31 December will be lower than the stated price for (example), £100 per penny of share price. If the share price ends up being 7p lower than what the market currently thinkts it will be, you win £700. If 50p, £5000. If you are wrong and it's up by 50p, you'd lose £5000. But your real-world shares would have gained, so you have an effective hedge. Wins and losses on such bets are tax free.

The above is a simplification as there is a 'spread' between the buy and sell prices in a spread-bet, in which the company makes its money. So if the real 'projected' price of the company at 30 september was £2.00, and you wanted to bet, you would have to say it would be lower than £1.9800 or more than £2.0200. If it closes at 2.01, you lose money either way - but not very much.

You can close the bets when the market is open so you don't need to wait until the exact maturity of the contract, you can get out early if you want. You generally can't get massively long maturities to keep you going until next summer, so will probably need to roll it over at some point (cash out at the initial maturity and buy in again, effectively paying the spread more than once).

However to place the bet you need to put money in your account as a margin as you will need a certain level of deposit if you are placing a bet that could win or lose many thousands. It's unlikely the share price will drop to zero or go up to infinity so you don't need to put 100% of the value into the account, but if you are not betting on a limited risk basis (fronting all the money yourself) you may need to be aware that they could ask you to reach into your pocket if the market moves significantly against your position. Which would be fine if you actually held the shares in the real world and could sell them, but you don't own them in the real world until November...

It would be neater (though perhaps more expensive in terms of price ultimately paid per pound of hedge) to limit your risk by buying options to sell (a 'put' option described by the poster above) at a certain price, the opposite way to how you have an option with your company to buy at a certain price. Rather than a standard spreadbet that moves pound for pound in both directions. Still, while options on the overall FTSE index are readily available, they may not be available for all individual companies and may not be cheap.


Ignoring spreadbets and spreadbet options the other thing offered by firms is 'contracts for difference' or CFDs. These are derivative contracts linked to the market price of the real shares, so are within the scope of CGT rather than tax exempt as bets (which may be useful if you are going to buy real-world shares with real world CGT bills attached; a loss on a CFD will reduce the tax on your sharesave gain). Effectively with a CFD you can hold a short or 'down' position in your employer, with a contract that says it is worth £x to you for every pence that the share price is lower than the stated price at maturity. These can be done on margin so you don't need to actually give the firm £70,000 or whatever of cash to cater for your company accidentally doubling in value between now and November, but the risk of making investments (up or down) on margin is that if your losses start to get large, they will make you put in more margin.

The problem with doing any kind of hedge to cover the downside risk of your large 'virtual' holding of shares, as highlighted by Economic, is that you don't actually own the shares yet...

Imagine if the share price today is £2 and you made some financial contract with a firm to sell 30,000 shares at £2 each. If the market falls a bit, great, you make money because you have a contract to sell £30,000 shares for £60,000 but you can buy them in the market for £50,000 and take a clear profit, so you just cash in the contract. While if the market price goes up to £2.50, obviously it's a pain that you have to sell 30,000 shares for only £2 each when they'd cost you £2.50 to buy on the market and fulfiil the contract, but actually they don't cost you £2.50 to buy in the market because you get them from your firm at a massive discount, and if they have gone up to £2.50 in the market you'll make a nice extra profit on the deal with work, so you can afford the loss to the CFD operator. All nice in theory, BUT

The problem comes where you place a big 'down' bet on your company shares and they double in value over the next three months. You face a big loss of tens of thousands on your 'bet', but you don't mind because you are going to make tens of thousand extra profit on the sharesave. However, the losses get so big that you have to close out the contract because you don't have enough cash in your bank to suffer any more potential losses. And then all of the sudden the share price crashes after you close the contract so you don't make the sharesave profits after all.

Another disaster would be if you bet on the price going down a lot and instead it went up dramatically, leading to a £50k loss position matched roughly by £50k of extra gains on the sharesave deal to mature in November.... but in October you get fired for gross misconduct and are not allowed to exercise your sharesave option, just withdraw the £14-15k of savings. Which are nowhere near what you need to pay the finance company to fix up the position where you had committed to pay them for a large increase in company value when you assumed you'd benefit from that rise.

Great post that I will go through more thoroughly tomorrow. I had seriously considered what would happen if my employment ended before the option date, which is why I had ruled out the spreadbet. The way I understood the put option seemed to avoid that difficulty as my maximum liability would be (for the sake of argument) maybe 5k.. which wouldn't be a disaster. Like I say, I will look in more detail tomorrow, thanks.

dealer_wins

You could put a bet on Betfair on "next general election-Labour Majority" at odds of 2/1 ish. That would be the main reason the share price would collapse!