How to React to a Stock Split

Even if you are a swing trader, some stocks' strong performance can convince you to hold them in your portfolio for an extended period. Value investors are more likely to know what I'm talking about. However, ?suppose this steady Eddie growth stock will soon go through a stock split. This possibility can be unsettling if you've never owned a stock that split. After reading this article, you'll know exactly what happens during and after a stock split. Here's a breakdown of what stock splits entail and their impact on your investment portfolio.

What is a stock split?

A stock split occurs when a company divides and increases the number of shares available to investors for buying and selling on an exchange. Despite lowering the stock price, a stock split does not diminish its value for existing shareholders. Instead, it increases the number of shares, potentially attracting more investors to make purchases.

The total value of the stock shares stayed the same post-split, as shareholders retained the same value of shares, albeit in a greater quantity.

How does a stock split work?

A company's board of directors initiates a stock split to make shares more affordable to potential investors. Typically, the announcement precedes the split by a few weeks, allowing current and potential investors to adjust their plans accordingly.

The type of stock split employed can impact the total number of shares available. For instance, a 2-for-1 stock split halves the value of each share. Thus, if you own 50 shares of a stock trading at $50 per share post-split, you'll possess 100 shares valued at $25 each.

Types of stock splits

The type of stock split can offer insights into a company's performance. A regular stock split often occurs when a company perceives its stock value as too high, indicating robust performance and a desire to increase shareholder participation.

In contrast, a reverse stock split reduces the number of shares, and companies often use them to boost the share price and meet minimum listing requirements on exchanges.

Examples of stock splits

Stock splits are not uncommon occurrences. In recent years, companies like Alphabet (Google), Amazon, GameStop, and Tesla have implemented stock splits to enhance shareholder accessibility.

Why do companies split their stocks?

Companies may opt for stock splits when they deem their share price too high for most investors. By splitting stocks and reducing the price per share, companies aim to broaden the investor base and foster greater shareholder participation.

Who benefits from a stock split?

?Stock splits benefit both companies seeking to expand their shareholder base and potential investors looking to purchase more affordable shares. By increasing the number of shares available and adjusting the share price, companies can attract a broader range of investors.

Should you consider stock splits in your investment strategy?

While stock splits may offer increased accessibility to shares and attract more investors, they can also introduce volatility into the market. Understanding the implications of stock splits and conducting thorough research can help align your investment strategy with your financial goals and risk tolerance.

Exploring the Benefits and Drawbacks of Stock Splits

Although stock splits usually don't significantly impact your stock investment, these are some pros and cons you should be familiar with.

Pros

1. Increased Buying Opportunities: Stock splits often lead to a drop in the stock price, making shares more affordable for potential investors. This creates an opportunity for individuals who may have found the previous price prohibitive to enter the market, expanding the investor base.

2. Enhanced Awareness: The announcement of a stock split can attract increased attention to a company. This heightened visibility may draw the interest of investors who were previously unaware of the company or hesitant to invest at higher price points.

Cons

Potential Volatility: Stock splits can introduce volatility into the market as investors respond to the news. While some investors may see the split as an opportunity to buy, others may choose to sell their shares. This fluctuation in trading activity can lead to short-term price instability.

No Inherent Increase in Value: While stock splits increase the number of shares held by investors, they do not inherently increase the value of those shares. Instead, the value per share adjusts inversely with the increase in quantity. However, over the long term, as more investors become shareholders, the value of the shares could potentially increase.

Monitoring Stock Splits

Companies typically announce stock splits several weeks before they take effect. Investors can stay informed about upcoming splits by utilizing stock split calendars provided by financial platforms like Nasdaq. Additionally, brokers may offer access to stock split calendars, allowing investors to track split ratios and effective dates. However, ?account holders may have access to these resources only.

Stock Splits and Fractional Investing

Fractional investing enables individuals to own a portion of a single share of a stock, making investing more accessible, particularly for high-priced stocks. While some companies and brokerages offer fractional investing options, they are not universally available. Investors considering purchasing fractional shares should research whether their chosen brokerage provides this service.

Should you take advantage of stock splits?

Stock splits can present an opportunity for investors interested in purchasing shares of a company whose stock was previously extremely expensive. While stock splits should not be the sole reason for investing in a stock, they may be a compelling factor in exploring investment opportunities.

Does it matter to buy before or after a stock split?

Stock per share prices are typically higher before a split compared to purchasing after the split. If seeking to acquire shares at a lower price, investors may consider waiting until after the stock split to purchase.

Final notes

While stock splits can offer investors opportunities to acquire shares at more affordable prices, you should view them within the broader context of investment strategies and goals. Understanding the implications of stock splits and conducting thorough research helps you make more informed decisions that agree with your financial objectives and risk tolerance levels.

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