What BP Oil Spill Disaster Can Teach Investors

June 22, 2010 — -- Investors, take notice. The BP oil spill has taught us once again that no stock is immune from potential disaster.

No matter how rock-solid a particular stock has been, risk always looms on the horizon. That's why staking your financial future on just one or two stocks is plain foolish.

History tells us many investors will ignore this latest lesson. Why should things be any different this time than when Enron emerged as a fraud, General Motors filed for bankruptcy or Bank of America slashed its juicy dividend?

In each case, average investors took the hit for corporate failures. They were left with worthless shares or disappearing income.

I'll hope this time that retirees, 401(k) participants and other individual investors will heed the lessons of the BP disaster and avoid holding more than 10 percent of their overall portfolio in a single company's stock.

For that reason, let's review what's happened to BP shareholders since the oil rig explosion on the evening of April 20 that has devastated the Gulf of Mexico region.

That afternoon, BP's share price on the New York Stock Exchange had closed at $60.48, up 55 percent over the previous 12 months. (Since BP PLC is a foreign company, American investors actually buy BP's ADRs, or American Depository Receipts, which represent shares in a foreign company owned on their behalf by a large American bank.)

At the time, BP stock paid an annual dividend of $3.36 per share, a yield of 5.6 percent. Things couldn't be better for BP shareholders, it seemed.

But without warning to investors as well as Gulf Coast residents, disaster struck.

As a result, BP shares have lost nearly half their value, and the company's above-average dividend has been cut to zero as the company sets up a $20 billion reserve to cover damages resulting from the oil spill.

If you owned 1,000 shares of BP, on April 20th they were worth more than $60,000 and paid annual dividends of nearly $3,400. Today, your 1,000 shares are worth less than $31,000, and there are no dividend payments in sight.

A retired New Jersey school teacher described for Bloomberg News how she would lose $10,000 a year in income as a result of BP's dividend suspension. Similar stories have been told by British retirees who count BP as one of their favorite holdings thanks to the once-reliable income stream.

Some observers have portrayed President Obama's pressure on BP to suspend its dividend as a move that puts Gulf fishermen ahead of retirees. In some respects, that's true.

But owners of common stock must remember where they stand when it comes to company profits. They are last in line behind bondholders who lend money to companies, and then the owners of preferred stock. Dividends to common stock owners get paid last if there's anything left, and there is no legal requirement to pay the dividend as there is with bond interest payments.

Disappointed BP shareholders need to keep that in mind. That's one of the risks you take when investing in stocks.

The biggest losers (outside of Gulf Coast residents and business owners) may be BP's own rank and file. At the start of 2009, BP stock accounted for nearly one third of the assets owned by the 39,000 participants in the 401(K) plan offered to employees of BP's North American subsidiary, according to BrightScope LLC.

The average BP 401(k) plan held $180,000 at the time, meaning about $60,000 was held in BP stock. The next closest investment, an S&P 500 Index fund, accounted for just 6 percent of employees' assets, according to BrightScope, which rates company 401(k) plans.

Someday, after the leaking well is plugged and the Gulf region hopefully recovers, BP workers and other investors may see their portfolios recover. But that could be years away, and it may never happen.

So, everyone else, take notice and diversify your holdings before a corporate disaster strikes your portfolio.

This work is the opinion of the columnist and in no way reflects the opinion of ABC News.

David McPherson is a Certified Financial Planner professional and founder of Four Ponds Financial Planning LLC (www.fourpondsfinancial.com) in Falmouth and Mansfield, Mass. Contact McPherson at david@fourpondsfinancial.com