Investors with concentrated positions in single stocks—for example, employees at Silicon Valley firms who receive stocks and options as part of their compensation packages—may have a new option for achieving diversification.
Cache, a startup led by founder and CEO Srikanth Narayan, has debuted The Cache Exchange Fund to serve that market. Exchange funds are pools in which investors with concentrated stock positions can contribute stocks in a communal fund and, after seven years, have the option to withdraw a basket of equities (although they can also choose to remain invested). The original contribution does not count as a taxable event, and when the stocks are redeemed later, the cost basis is of the original concentrated stock position. (If an investor opts to withdraw before the seven-year time period, they get back their original stock instead of a diversified basket.)
"If I’m a holder of a concentrated stock position, I can leverage this strategy as an estate planning technique to exchange the single stock for a basket of individual stocks with the goal of leaving my heirs with a basket of securities vs. one single stock,” said Vance Barse, a wealth strategist and founder of Your Dedicated Fiduciary. “Plus, the step up in basis under the current tax code still applies for non-qualified assets, meaning non-retirement assets. So, this diversification strategy is that much more appealing because if we can leave a basket of 25 or so individual stocks that are inherently diversified across industries, sectors, etc., there is intrigue to that strategy from a potential risk management standpoint compared to taking on the idiosyncratic risk unique to a single stock."
Exchange funds themselves are not new. Eaton Vance pioneered their use and development decades ago. However exchange funds have typically required minimum contributions of $1 million. What sets Cache apart is the minimum investment is just $100,000. Another feature of the fund is that it is benchmarked to the Nasdaq 100. The fund has a monthly close and also provides a NAV on a monthly basis.
Cache’s first exchange fund includes stocks from more than 50 companies with an average commitment of $650,000, and the firm is reportedly working through a waitlist of more than 1,000 investors with reservations worth more than $900 million with stocks across 150 companies. It’s also working with several wealth management advisors, including Adero Partners, Citrine Capital, Fort Point Capital and Three Bell Capital, and it has raised $8.5 million in seed funding co-led by First Round Capital and Quiet Capital.
Adero Partners, a Pleasanton, Calif.-based wealth management firm with $3.5 billion in assets under management for 900 individuals and families, has a number of clients that worked in Silicon Valley with concentrated positions.
“We’ve looked at them over the years, but in the past, the cost structures were not favorable, fees were higher, there wasn’t much transparency on what stocks you would get in year seven, and the minimums were high,” said Aaron White, a chief growth officer at Adero. “I connected with Cache early last fall and had some initial conversations, completed a review and we were really impressed with what we saw.”
The features that appealed to White included that the fund was open to accredited investors and not limited to qualified purchasers. Adero also liked that the fund is tracked to a Nasdaq 100 index.
In addition to the exchange fund, Cache is offering stock lending and collar advance services directly to retail investors.
Narayan, a former Uber employee, sought to develop the product after he began exploring options for how to diversify his Uber stock. He cashed out and purchased other equities but paid capital gains. After learning about exchange funds later, he sought to build a product that would be more accessible to other investors who had been in the same position.
“I had a lot of net worth tied up in Uber stock,” Narayan said. “I talked with some exchange funds but was not accepted or was put in a very long queue. That’s what led me to find a more efficient way to do this. And 99% of my friends and colleagues have no idea that exchange funds exist at all. They might spend years or decades having their entire portfolio tied to one company.”
There are other strategies for dealing with concentrated stock positions. For example, investors can achieve some tax loss harvesting by direct indexing through SMAs, but that strategy takes time, and often, it’s difficult to find large offsets if the concentrated stock has appreciated by a lot. Other options include contributing stock to a charitable trust, tax bracket management or using annual gifting to pass along up to $18,000 per year to heirs.
