DUMP LOSERS, START OVER - Hartford Courant
DUMP LOSERS, START OVER
Q. Back in May of 2000, I bought 400 shares of Lucent Technologies Inc. at $47 a share. This $19,000 investment is now worth about $700. What should I do? Sell these 400 shares and declare a big loss on my next tax return? Or invest more money in Lucent, with the hope that the company might bounce back?
--R.P. , Chester
A. There comes a time when investors have to admit they've made a mistake. That time might be now.
And the only way to admit a mistake -- and show that you really mean it -- is to sell a stock or mutual fund that's swirled down the drain.
That's right: Hold a tag sale on the junky investments you've amassed over the years. Sell some or all of these shares at a loss before the year ends. Then look forward to declaring a capital loss when you file your 2002 tax return in the winter or spring of 2003.
After you dump your losers, you can invest what cash you have left somewhere else. There's no shortage of places to put your money. You can even, if you wish, buy stock in another high-tech company that's as deliciously speculative as Lucent Technologies.
This time, however, speculate with two resolutions: to put a cap on losses, and to understand why massive losses are not easily recovered.
Let's begin our three-prong strategy with Part I: selling your investment at a loss.
Today 400 shares of Lucent would fetch about $600 at the market. Because you paid about $19,500 to buy these 400 shares in May 2000, you could claim an $18,900 capital loss (calculated by subtracting the sale price from the purchase price, commissions included) on your tax return next winter or spring.
This $18,900 loss, however much you might hate it, can be used as a potent weapon in the years to come, said Joel Kosovsky, a certified public accountant with Kosovsky, Pratesi & Co. LLC in Farmington.
On your 2002 tax return, for example, the $18,900 loss can be used to offset any capital gains you might have through another investment. Perhaps you have a bond fund that's going to distribute $3,000 in capital gains before the end of 2002. Your loss from the sale of Lucent could wipe out that capital gain -- and the taxes on the gain that would inevitably follow.
In fact, you can claim up to $3,000 ($1,500 if you're married and file a separate return) in net capital losses on your 2002 tax return. The losses you cannot legally use this year can be carried forward to future years. Assuming you have no gains from other investments in 2002, you could carry forward as much as $15,900 in capital losses to 2003, 2004, or until they run out. These losses, furthermore, can be applied to short-term or long-term gains in future years, Kosovsky said.
What's a loss worth to you? If your effective income tax rate is 25 percent, then a $3,000 capital loss -- to be deducted from your 2002 income -- is worth $750.
It's also possible to use this loss to negate gains outside the world of stocks and bonds. Perhaps you own a vacation home. Perhaps you're in your 60s or 70s and want to sell it. The $18,900 loss from the sale of Lucent can be used to reduce the gains kicked up from the sale of that second home, said Thomas Badik, a certified public accountant based in Madison.
The loss could also come in handy if the stock market recovers. "Stocks will come back and your mutual funds will distribute capital gains again. Losses today can offset the capital gains you expect to realize tomorrow," Badik said.
And, if you're hellbent on speculation, finding a replacement for Lucent should be easy.
Nextel Communications, Tellabs, JDS Uniphase, Sun Microsystems, ADC Telecommunications, Corning Inc. and CIENA Corp. are just a few high-tech companies whose shares are selling below $5. Any of these companies could go belly up, if their underlying businesses do not rebound soon. But any of these companies -- if they can hang on -- could reward shareholders with five- to tenfold appreciation.
Just keep your eye on the downside, before you prepare to count your buried treasure, market observers said. Set a 10- to 15-percent limit on losses. If you're really feeling bold, set a 25 percent limit on losses. Then follow these guidelines, without hesitation.
"So many people refuse to take a loss because they feel foolish after they've made a mistake," said John Nofsinger, author of "Investment Blunders of the Rich and Famous: and What You Can Learn from Them."
Get over the mistake, and get on with it.
Tiger Woods recently shot an 81 at the British Open. Joe DiMaggio struck out from time to time. Billionaire Warren Buffett once purchased a stake in U.S. Airways, an airline that's now struggling to stay aloft.
"Even the best money managers make mistakes," said Jonathan Hoenig, head of Capitalistpig Asset Management in Chicago.
Yet the best money managers also minimize mistakes. They sell losers; they understand the destructive powers of an ever-expanding loss.
It takes an 11 percent gain to negate a 10 percent loss.
A stock that drops 20 percent, needs a 25 percent gain to recover what it lost.
Allow a stock to lose 33 percent and you need a 50 percent rise to get back to even.
And when a stock or mutual fund loses 50 percent of its value, you need a 100 percent rise to get back to where you started.
With Lucent Technologies, the arithmetic of recovery is more daunting still. To go from $1.50 to $47 (and fully recover what you've lost), Lucent stock has to double every year for the next five years.
Such a recovery is not impossible. Shares of Chrysler Corp. in the early 1980s, and Bank of Boston in the early 1990s, posted spectacular gains after nearly grinding down to zero.
But it's wise not to pin your future to a once-in-a-lifetime rebound in the busted stocks that you own. A penny stock comeback, like money dropped from an airplane, is extremely rare.
Correction: Shipman & Goodwin is a Hartford law firm that does not give investment advice to its clients. The firm was incorrectly described in the July 21 edition of Matt's Money Talk.
DUMP LOSERS, START OVER - Hartford Courant
DUMP LOSERS, START OVER
Q. Back in May of 2000, I bought 400 shares of Lucent Technologies Inc. at $47 a share. This $19,000 investment is now worth about $700. What should I do? Sell these 400 shares and declare a big loss on my next tax return? Or invest more money in Lucent, with the hope that the company might bounce back?
--R.P. , Chester
A. There comes a time when investors have to admit they've made a mistake. That time might be now.
And the only way to admit a mistake -- and show that you really mean it -- is to sell a stock or mutual fund that's swirled down the drain.
That's right: Hold a tag sale on the junky investments you've amassed over the years. Sell some or all of these shares at a loss before the year ends. Then look forward to declaring a capital loss when you file your 2002 tax return in the winter or spring of 2003.
After you dump your losers, you can invest what cash you have left somewhere else. There's no shortage of places to put your money. You can even, if you wish, buy stock in another high-tech company that's as deliciously speculative as Lucent Technologies.
This time, however, speculate with two resolutions: to put a cap on losses, and to understand why massive losses are not easily recovered.
Let's begin our three-prong strategy with Part I: selling your investment at a loss.
Today 400 shares of Lucent would fetch about $600 at the market. Because you paid about $19,500 to buy these 400 shares in May 2000, you could claim an $18,900 capital loss (calculated by subtracting the sale price from the purchase price, commissions included) on your tax return next winter or spring.
This $18,900 loss, however much you might hate it, can be used as a potent weapon in the years to come, said Joel Kosovsky, a certified public accountant with Kosovsky, Pratesi & Co. LLC in Farmington.
On your 2002 tax return, for example, the $18,900 loss can be used to offset any capital gains you might have through another investment. Perhaps you have a bond fund that's going to distribute $3,000 in capital gains before the end of 2002. Your loss from the sale of Lucent could wipe out that capital gain -- and the taxes on the gain that would inevitably follow.
In fact, you can claim up to $3,000 ($1,500 if you're married and file a separate return) in net capital losses on your 2002 tax return. The losses you cannot legally use this year can be carried forward to future years. Assuming you have no gains from other investments in 2002, you could carry forward as much as $15,900 in capital losses to 2003, 2004, or until they run out. These losses, furthermore, can be applied to short-term or long-term gains in future years, Kosovsky said.
What's a loss worth to you? If your effective income tax rate is 25 percent, then a $3,000 capital loss -- to be deducted from your 2002 income -- is worth $750.
It's also possible to use this loss to negate gains outside the world of stocks and bonds. Perhaps you own a vacation home. Perhaps 
you're in your 60s or 70s and want to sell it. The $18,900 loss from the sale of Lucent can be used to reduce the gains kicked up from the sale of that second home, said Thomas Badik, a certified public accountant based in Madison.
The loss could also come in handy if the stock market recovers. "Stocks will come back and your mutual funds will distribute capital gains again. Losses today can offset the capital gains you expect to realize tomorrow," Badik said.
And, if you're hellbent on speculation, finding a replacement for Lucent should be easy.
Nextel Communications, Tellabs, JDS Uniphase, Sun Microsystems, ADC Telecommunications, Corning Inc. and CIENA Corp. are just a few high-tech companies whose shares are selling below $5. Any of these companies could go belly up, if their underlying businesses do not rebound soon. But any of these companies -- if they can hang on -- could reward shareholders with five- to tenfold appreciation.
Just keep your eye on the downside, before you prepare to count your buried treasure, market observers said. Set a 10- to 15-percent limit on losses. If you're really feeling bold, set a 25 percent limit on losses. Then follow these guidelines, without hesitation.
"So many people refuse to take a loss because they feel foolish after they've made a mistake," said John Nofsinger, author of "Investment Blunders of the Rich and Famous: and What You Can Learn from Them."
Get over the mistake, and get on with it.
Tiger Woods recently shot an 81 at the British Open. Joe DiMaggio struck out from time to time. Billionaire Warren Buffett once purchased a stake in U.S. Airways, an airline that's now struggling to stay aloft.
"Even the best money managers make mistakes," said Jonathan Hoenig, head of Capitalistpig Asset Management in Chicago.
Yet the best money managers also minimize mistakes. They sell losers; they understand the destructive powers of an ever-expanding loss.
It takes an 11 percent gain to negate a 10 percent loss.
A stock that drops 20 percent, needs a 25 percent gain to recover what it lost.
Allow a stock to lose 33 percent and you need a 50 percent rise to get back to even.
And when a stock or mutual fund loses 50 percent of its value, you need a 100 percent rise to get back to where you started.
With Lucent Technologies, the arithmetic of recovery is more daunting still. To go from $1.50 to $47 (and fully recover what you've lost), Lucent stock has to double every year for the next five years.
Such a recovery is not impossible. Shares of Chrysler Corp. in the early 1980s, and Bank of Boston in the early 1990s, posted spectacular gains after nearly grinding down to zero.
But it's wise not to pin your future to a once-in-a-lifetime rebound in the busted stocks that you own. A penny stock comeback, like money dropped from an airplane, is extremely rare.
Correction: Shipman & Goodwin is a Hartford law firm that does not give investment advice to its clients. The firm was incorrectly described in the July 21 edition of Matt's Money Talk.