In case you were wondering, any shares you have in General Motors (Stock Quote: GM) are now worthless, or nearly so. And there’s no chance they’ll recover.
It’s a bit confusing, since news of GM’s bankruptcy refers to shares owned by the government and the union for the car maker’s employees.
Eventually, much of that stock, especially portions in the government’s hands, will be sold to the public. It will make its way into small investors’ accounts, either as direct stock purchases or through mutual funds.
But in a bankruptcy, new shares like these replace the old ones.
It may seem unfair. Why should shareholders be wiped out when the bankruptcy court works so hard to protect the creditors, like investors who own the company’s bonds?
It’s because, as the firm’s owners, it’s the shareholders who owe money to the creditors. If you owned a corner grocery store that went bankrupt, the building and everything in it could be sold to pay your bills. This is the same.
Fortunately for stockholders, the liability is limited to the value of their shares. The bankrupt firm’s creditors cannot go after your house, savings or other assets.
For investors, the key lesson of this or any other bankruptcy is: don’t put too many eggs in one basket. Obviously, individual stocks can be very volatile. But when one stock collapses, others may soar. Diversifying, or spreading your money among many stocks, smoothes the bumps in the road.
GM shares have fallen more than 76 percent since the start of the year, while the 30-stock Dow Jones Industrial Average, of includes GM until June 8, is about where it was when the year began.
You can invest in the Dow through an exchange-traded fund called Dow Diamonds (Stock Quote: DIA). It owns all thirty Dow stocks, and automatically adjusts when the members change. On Monday, GM will be replaced by Cisco Systems (Stock Quote: CSCO).
The problem of being “overly concentrated” in one stock is especially common for people who acquire their employer’s stock. Many companies use stock for the employer’s matching contributions to retirement plans like 401(k)s.
Generally, the employee is wise to limit these holdings to less than 10 percent of the portfolio. After reducing a big holding, look for an alternate investment that looks promising but isn’t likely to go up and down in lockstep with your other holdings.
Often, it pays to choose investments with steady gains over those that whipsaw about. To guide your choices, get a sense of the kinds of returns you need to meet your financial goals. The Savings Goal calculator and Savings, Taxes and Inflation calculator can help.
What should you do if you’re stuck with a block of GM shares?
Use the loss you’ve suffered to offset gains on other investments, thus reducing your federal income tax. If losses are bigger than gains, they can be used to reduce your ordinary income by up to $3,000 a year, or “carried forward” to offset capital gains or income in future years.
The easiest way to book the loss is to sell the shares. Shares in bankrupt firms often trade on the “pink sheets” even after they are no longer listed on a major exchange.
As an alternative, you can declare the stock worthless when you fill out Schedule D of your federal income tax return. Use a sales price of zero and record the stock as sold on Dec. 31, 2009.