Re: concentrated positions, the three techniques to manage them are sale, monetization and hedging. Can someone clarify if monetization involves first hedging the position? from what i get, you hedge it (by, eg, shorting it), then since you have a riskless position, borrow against it at a high LTV and use proceeds to diversify. This differs from the third strategy (hedging) b/c the latter doesn’t involve buying any more securities to diversify, but just heding the asset itself by buying puts or a prepaid variable forward
I don’t think so. I think the reason you monetize is because of taxes. If it is a perfect hedge (short selling), some government would just look at it as a sales of the asset (since you get the money and you have no risk or benefits from the asset). Monetization involves you using the assets as a collateral for borrowing (kinda like reverse mortgage that they’re pushing in Asia right now).
step 1…hedge a large part of the risk in the position…if a perfect hedge removes all risk it might be taxed as a sale. must be structured to eliminated as much risk as possible without the tax liab. coming due
step 2. borrowing using the hedge valued as collateral
So it seems like you do hedge it but not perfectly so you don’t get taxed…?
Depends on the way the taxes is going to impact it. I thought u mean full hedging (short sell of full amount). Honestly monetization is just convert the stock to money. What Schweser said is the most correct. If you hedge up to the government regulation (short selling, put) then borrow using it as collateral, the risk would be minimaize. I over looked that point :(. Key note is it doesn’t have to be short selling any method would be fine as long as you fall under the government definitation of perfect hedge.
Honestly though if there were no gov regulation you could just short sell the whole thing and monetize it. That would be the cheapest way to do it.
Monetization generally do not trigger tax liabilities as there was no sale or any transaction the the appreciated in value assets themselves. You just still own them.
However, if there are specific tax codes that levy taxes on such transactions we should be given details in the vignette. The thing is, in concetrared positions, to minimize taxes and all ways are good provided they are tax-efficient.
Kobi I have to respectably disagree with your last statement. If we assume a world of zero taxes, then the ranking would be selling, monetize then hedge.
Selling means your reducing your position so you get more diversifcation. That is the “best” thing you can do on a concentrated portfolio. Then you could use the money from the sell to diversify.
Monetizing is the second best, since you sale get money to diversify, but you have to pay interest rate due to short sell/borrowing and/or the premium for the options.
Hedging there is an upfront cost of a premium for the options, but you also loses the ability of diversification, since your concentration is fixed.
You use selling when you receive the money as an inheirtance (no sales tax).
You use monetization if you have sales tax > cost of monetization.
You use hedging if the investor thinks thinks the concentrated position is absolutely amazing and he doesn’t want to diversify at all, so you protect him by buying puts.