Stock Splits | What you need to know about your investment | Fidelity (2024)

What is a stock split?

In a stock split, each share is divided into multiple shares. The most common type of stock split is aaheadstock split. For example, a common stock split ratio is a forward 2-1 split (i.e. 2 for 1), where a shareholder receives 2 shares for every 1 share he owns. This results in an increase in the total number of shares outstanding for the company, but does not change a shareholder's proportional ownership. Normally, a stock split will reduce the per share price of each stock in proportion to the increase in the number of shares.

Using this example, a 2-1 split for a $200 stock trade will halve the price to $100 and double the total number of shares outstanding.

Why does a company decide to do a stock split?

A company's management may decide to conduct a forward stock split if they believe the price is relatively "high" or is trading outside an "optimal" range. This decision is made by management based on their subjective view of the stock's historical trading range and other factors.

A company canbackwardsstock split if they believe the share price is relatively "low" or to avoid delisting (some exchanges have minimum share price requirements). For example, in a 1-2 reverse stock split for a stock trading at $2, you would receive 1 share for every 2 shares you owned after the split, and the stock price would double to $4. Again, the total value of your investment will not change as a result of the stock split.

How does a stock split affect your holdings/portfolio?

The most important thing to understand about a stock split (including a reverse stock split) is that the proportional ownership of your position is not affected by the split and the impact on the overall value of the position is determined by the market. Although the number of shares you own changes after a stock split, the split itself does not change your investment value.

For example, let's say you own 100 shares of a company trading at $200 per share. shares, for a total value of $20,000. All other things being equal, if the stock split 2-1, you would own 200 shares of the company at $100 per share. shares after the split for the same total value of $20,000.

Consequences of investments

Some investors believe that a stock split over time is a signal from management to investors that the company believes its stock value is attractive. Moreover, the stock can become more accessible to additional investors at a relatively lower price.

It may happen that a company's stock price rises immediately after a stock split announcement (due to this signaling effect by management). There is evidence that companies that split their shares outperform the broader market in the short term.¹

Of course, this does not mean that a stock will rise after the announcement of a stock split or when it takes effect. Keep in mind that a stock split in itself will not affect the value of your holdings. If there is no strong earnings, dividend growth, or other positive news for the company following the stock split, any gains the stock makes after the stock split announcement will likely fall back to (or lower) than the prior announcement.

A company usually announces a stock split several weeks before the split actually takes place. So there is a period between the announcement and the share split. You don't want to base your decision to buy (or sell) a stock solely on a stock split. A stock split does not change the value of a stock because it does not change the fundamentals or growth prospects of the underlying company. If you have decided that you want to buy the stock of a company that has announced a split, your decision about when to buy may be based on your research, objectives, risk limitations, and other considerations related to your strategy.

Other management decisions regarding the stock – such as changes to a dividend payment or a new stock offering – will impact the fundamentals of the company and therefore your investment value. But not a stock split.