What is a stock split, and is it a good or bad sign when it happens? (2024)

What is a stock split, and is it a good or bad sign when it happens? (1)
  • A stock split is when a company decides to increase the number of shares by dividing its existing shares into additional shares.
  • Stock splits don’t provide any economic value to the company. They just reduce the stock’s price, making it more affordable.
  • Stock splits are often good signs for shareholders, attracting new investors and eventually leading to a share-price rise.
  • Visit Business Insider’s Investing Reference library for more stories.

As an investor, the idea of “splitting” anything is probably not at the top of your list.

But when it comes to stocks, your portfolio may benefit from a split.

A stock split occurs when a company makes its shares more affordable by dividing its existing shares into additional, less expensive shares.

In a stock split, the company’s overall value stays the same — a split may reduce the price per share but it doesn’t affect the company’s market capitalization. There are simply more shares to go around.

If you’re already a shareholder in a company when it declares a stock split, not much changes. Nevertheless, it’s important to grasp how stock splits work, especially for understanding how the market may react post-split.

What is a stock split?

Public companies have a set amount of outstanding shares available in the market.

A stock split is exactly what it sounds like: It's an action by a company's board of directors to increase the number of shares of stock in the company by "splitting" its existing shares.

A stock can be split in as many ways as a company chooses, supplemented with ratios such as "2-for-1," "3-for-1," all the way up to "100-for-1". All this tells you is how much one share is now worth. For instance, in a 2-for-1 split, every single share held by an investor now becomes two. The number of shares the investor has literally doubled.

When companies opt for a stock split, it increases the overall number of outstanding shares and lowers the value of each individual share. But that doesn't mean the overall valuation of the company changes. Nor does the overall dollar amount of the investor's stake.

Let's use Apple's most recent 4-for-1 stock split as an example. For simplicity's sake, say you have one share in Apple's stock. Via its 4-to-1 split, Apple grants you three additional shares (totaling four), but each share is then valued at a quarter of the original. The four shares are worth the same as the one share pre-split.

For existing shareholders, the result is the same — the total value of the shares remains consistent. There are just more pieces of the pie, so to speak.

For new investors, an announcement of a stock split can signal a time to buy, since a lower price per share means buying at lower prices. Overall, stock splits signal to the market that the company's share price is growing and the company's optimistic it will continue to do so in the future.

Why do companies split stock?

There are many reasons why a company may consider a stock split. Since stock splits don't add economic value, much of it comes down to making the stock more attainable to everyday investors, and the behavioral benefits of that.

Here are three main reasons why a company may split a stock:

  1. Make the stock more accessible: The main purpose of a stock split is to reduce the price of an expensive stock — especially when compared to price levels of peers in the industry — making it accessible to more investors.
  2. Create more liquidity: Because a stock split increases the volume shares in circulation, it can result in greater liquidity, which makes it easier for the stock to be traded. Increased liquidity is better for investors as it makes buying and selling stocks at fair prices much simpler. As well, trades can be done much faster.
  3. Revive interest: When a stock splits, the company is often perceived to be a successful one. The fact that the share price of a company is so high that it must split its stock indicates to investors that the company has been successful and must be a good investment.

    A stock split also often increases the share price after its initial reduction. As the reduced price makes a stock cheaper, more investors are able to purchase it, driving up the demand and, therefore, the price.

What is a reverse stock split?

Generally speaking, a traditional stock split is considered a good thing. But there's also what's called a reverse stock split, and as you might guess, it's the opposite.

A reverse stock split occurs when the quantity of outstanding shares is reduced and the stock's price is increased. For example, if you had two shares in a company worth $10 each, you would now have one share worth $20.

Though regular stock splits, also known as forward splits, are a positive indication of the success of a company, a reverse stock split indicates a company in trouble. A business usually enacts a reverse stock split when the price of its stock has become so low that it is in danger of being thrown off a stock exchange — and not allowed to trade on it anymore.

In order to avoid being "delisted," as this dire fate is known, the company will enact a reverse stock split, increasing the stock price and ensuring it stays on the market.

Investors should commonly avoid companies that have undergone a reverse stock split, unless the company provides solid plans to improve its performance.

The financial takeaway

In a stock split, a company increases the number of its shares by dividing its existing shares into more shares, thus reducing the price of each share. This results in shares that are more affordable and more attractive to investors.

When a company splits its stock, the current shareholders are not financially impacted. The value of their holdings remains the same; they just now have more shares — but at a lower price apiece. Their overall investment has the same value as before the split.

When a stock splits, its liquidity and trading volume often improves. Most companies that split their stock see an increase in the long-term growth of their share price. as more investors buy up the now-cheaper stock. This, in turn, often benefits existing shareholders as they see the value of their investment increase.

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I'm a seasoned financial expert with a deep understanding of the intricacies of the stock market and investing. Over the years, I've closely followed market trends, analyzed various financial instruments, and provided valuable insights to investors. My knowledge is not just theoretical; I've practically applied my expertise in navigating the complexities of the financial world.

Now, let's delve into the concepts discussed in the article about stock splits. A stock split is a strategic move by a company's board of directors to increase the number of shares by dividing its existing shares into additional, more affordable ones. This process doesn't change the company's overall value; it merely reduces the stock's price. The most common ratios for stock splits include "2-for-1," "3-for-1," and even "100-for-1."

For instance, let's take Apple's recent 4-for-1 stock split as an example. If you initially had one share, after the split, you would receive three additional shares, making it a total of four shares. However, each share's value would be a quarter of the original. The total value of your investment remains consistent.

Stock splits are often seen as positive signals for shareholders. While they don't add economic value, they make the stock more accessible to a broader range of investors. The lower price per share can attract new investors, leading to increased demand and, consequently, a rise in share prices.

Companies opt for stock splits for several reasons. First, it makes the stock more accessible to everyday investors. Second, it creates more liquidity in the market, making it easier for stocks to be traded. Lastly, it can revive interest in a company, signaling its success to investors.

On the flip side, there's a concept known as a reverse stock split, which is the opposite of a traditional stock split. A reverse stock split occurs when the quantity of outstanding shares is reduced, and the stock's price is increased. This is usually done when a company is in financial trouble and risks being delisted from a stock exchange. Investors should be cautious with companies that undergo reverse stock splits unless the company provides solid plans for improvement.

In summary, a stock split doesn't impact existing shareholders financially, but it can make the stock more attractive to new investors. It's a strategic move by companies to enhance accessibility, liquidity, and market perception.

What is a stock split, and is it a good or bad sign when it happens? (2024)

FAQs

What is a stock split, and is it a good or bad sign when it happens? ›

A stock split is a corporate action in which a company increases the number of its outstanding shares by issuing more shares to current shareholders. Stock splits can improve trading liquidity and make the stock seem more affordable.

Is it good or bad when a stock splits? ›

It's basically a draw, and the value of your investment won't change. However, investors generally react positively to stock splits, partly because these announcements signal that a company's board wants to attract investors by making the price more affordable and increasing the number of shares available.

Is stock split positive or negative? ›

Investors often perceive splits viewed as a positive sign for a company, which can lead to a spike in its stock price. For example, in March 2022, Amazon announced a 4:1 stock split. It traded for (a split-adjusted) $145.64 per share at that time.

What is stock split in simple words? ›

A stock split is when a company's board of directors issues more shares of stock to its current shareholders without diluting the value of their stakes. A stock split increases the number of shares outstanding and lowers the individual value of each share.

Is 3 to 1 stock split good or bad? ›

One side says a stock split is a good buying indicator, signaling that the company's share price is increasing and doing well. This may be true but a stock split simply has no effect on the fundamental value of the stock and poses no real advantage to investors.

Why would a stock split be good? ›

However, stock splits often do lead to portfolio growth. With a forward split, the biggest advantage is that your shares can gain value more quickly. New investors can buy in more easily, allowing for faster potential growth in the company's share price.

What usually happens when a stock splits? ›

Normally, a stock split will reduce the price per share of each share in proportion to the increase in shares. Using this example, a 2-1 split for a stock trading at $200 would halve the price to $100 and double the number of total shares outstanding.

What is a negative stock split? ›

A reverse stock split consolidates the number of existing shares of stock held by shareholders into fewer shares. A reverse stock split does not directly impact a company's value (only its stock price). It can signal a company in distress since it raises the value of otherwise low-priced shares.

What are the risks of a stock split? ›

Another risk of a stock split is the reduction in the face value of a share. If the company's performance plummets in the future, the face value will go down further in the market. When a company does not benefit from a stock split, it might be tempted to conduct a reverse stock split.

Is it better to sell stock before or after split? ›

If you sell your shares before a stock split, you retain the same overall value but may have more shares at a lower price. If you sell after a stock split, the total value remains unchanged, but you have more shares at a lower individual price.

Do stocks usually go up after a split? ›

It doesn't change the company's market value or capitalization. If you own shares in the company, a stock split doesn't change the value of your holdings.

What stocks are expected to split in 2024? ›

3 Potential Stock Splits to Add to Your 2024 Radar
  • Broadcom (NASDAQ:AVGO) is the most expensive stock on this list on a per-share basis. ...
  • Deckers Outdoor (NYSE:DECK) is another that needs a stock split. ...
  • Nvidia (NASDAQ:NVDA) is no stranger to the spotlight after gaining almost 2,000% over the past five years.
Mar 20, 2024

Are stock splits bullish or bearish? ›

A stock split won't change a company's fundamentals, but it makes shares more affordable for smaller investors. Stock splits are generally bullish—at least in the short term—but the exact reason remains something of a mystery.

Did Tesla stock split? ›

Tesla stock has split twice previously. The first was a five-for-one exchange on August 31, 2020. Two years later, on August 25, 2022, the company implemented a three-for-one split.

Will Walmart stock split in 2024? ›

30, 2024 — Walmart Inc. (NYSE: WMT) announced that it will conduct a split of its outstanding shares of common stock at a ratio of 3:1. The stock split is part of Walmart's ongoing review of optimal trading and spread levels and its desire for its associates to feel that purchasing shares is easily within reach.

Is Walmart a good stock to buy? ›

Walmart has a conensus rating of Strong Buy which is based on 25 buy ratings, 3 hold ratings and 0 sell ratings. The average price target for Walmart is $65.73. This is based on 28 Wall Streets Analysts 12-month price targets, issued in the past 3 months.

Is it better to buy a stock before it splits or after? ›

Does it matter to buy before or after a stock split? If you buy a stock before it splits, you'll pay more per share than what it'll cost after it splits. If you're looking to buy into a stock at a cheaper price, you may want to wait until after the stock split.

Do stocks normally go up after a split? ›

A stock split itself doesn't inherently cause the stock price to go up or down. The total value of the company remains the same after a split, as it simply divides existing shares into more shares with a lower price per share. Generally speaking, the price in the market will go up.

Should I sell before a stock split? ›

That said, many stocks have shown strong performance after a split. In other words, selling your shares of a stock prior to a split isn't always the best decision – unless, of course, you're not well-positioned to continue holding the stock.

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