For an investor, yesactivain your portfolio may change over time. They can rise or fall in value and sometimes they can be affected by a so-called stock split.
A stock split can have different consequences depending on the type of split that takes place. In some cases you may end up with more shares, and in other cases with fewer. But the most important thing is that the value of your assets does not change.
What is a stock split?
A stock split is when a company divides an existing stock into multiple shares. In other words, a share of a particular company's stock in your portfolio could be split into two shares, three, or even more as a result of a stock split.
Listed companies periodically choose to split their shares when share prices rise too high. Taking this step will reduce the unit price of each share.
“For example, if a company's stock price is $100, the board may decide that by splitting the stock they can make their shares more accessible to more people.investors. The board could approve a two-for-one stock split so that holders of one original share would be left with two shares after the split,” said Andrew Crowell, financial advisor and vice president of asset management at D.A. Davidson. “If the stock price was $100 before the split, the shares would be $50 each after the split.”
Stock splits allow a company to increase the liquidity of its shares - or how often the shares trade on an exchange. This is also called volume, the total number of shares traded within a certain time frame.
“Low volume stocks don't trade often,” says Jon Klaff, managing director of Magnifi. "The price of a stock can affect its volume, with higher prices making it harder to buy and sell. Most people don't want to be stuck with a stock they can't sell."
The meaning of stock split ratios
The exact proportion of the stock split plays an important role in the resulting price of the individual shares. Stock splits often happen on a two-for-one basis, meaning if you had one share, you now have two, as Crowell said. But depending on how much the company wants to lower its stock price, it could also be a three-for-one split, a four-for-one split, and so on.
In some cases, the split ratio is even higher, such as 20 to 1. That was the case with Google parent company Alphabet, which split its shares 20 to 1 in July, making shares significantly more affordable to retail investors. As a result of the split, Alphabet stock prices fell from approximately $2,255 per share. shares at around $112 each, making purchases much more palatable for those looking to buy whole shares.
What is a reverse stock split?
Not all stock splits are intended to lower stock prices. In some cases, the distribution may be aimed at just the opposite: increasing the price per unit. This is known as a reverse stock split.
“Typically, a company will do this when the stock price is in the low single digits, like $3 per share or $2 per share,” said Dave Heger, senior equity analyst at Edward Jones. “If a stock is trading below a certain cut-off point, you run the risk of being delisted, and therefore the company will do a reverse split.”
In a reverse split scenario, ifand actionis currently $3 per share and if the company participates in a 10-for-1 split, the price rises to $30 per share. share, and the total number of shares in your portfolio for that company decreases.
How does a stock split affect your portfolio?
When a stock splits, the total dollar value of the investments in your portfolio for that stock generally does not change. You simply have more or fewer shares than before the split. But because the price of each share also changed due to the split, the value is ultimately identical.
“For example, one share worth $100 is worth two shares worth $50, so it ends up being a wash,” says Heger.
Despite this fact, there is often a perception among investors that stock splits actually add value – at least in the long term. This is because when a stock becomes more affordable, it can attract more investors, which can ultimately drive up the price.
“The split could lead to renewed interest from investors, potentially attracting more retail shareholders to the stock, who may see it as more viable to buy,” Heger continued.
Advantages and disadvantages of stock splits
While a stock split may not change the overall value of your holdings, there are some pros and cons to this type of event.
- Advantage: makes shares more affordable.Stock splits can be good news for those who want theminvest in shareswhich has historically been priced higher. For example, Apple shares havesplit five times since the first IPO in 1980. Had these splits not occurred, Apple stock would have been out of reach for many investors. At their peak, Apple shares were over $700 each. Now they are approx$136 per share.
- Advantage: May generate renewed interest from investors.When stocks are more affordable, it can attract greater retail interest, helping prices rise in the long term.
- Cons: Can cause volatility.When changes occur in the price of a particular stock, there is a risk that volatility will arise as investors move in or out of the stock.
- Disadvantages: Does not add new value:At least in the short term, the total value of your assets for that stock will remain the same. However, if the split actually generates more interest among retail investors, the price per share will increase significantly in the long term.
Take away food
While there is often the perception that stock splits add value to your portfolio, this is not exactly the case. At least in the short term it's a wash. The total value of the split shares remains the same. However, if there is renewed investor interest in the stock as a result of the split, your assets could become more valuable in the long term as the price rises.
