Alphabet (and more recently, Amazon and Tesla), announced stock splits to increase their shares and allow more investors to invest. But what is a stock split and should you invest after a stock split?
Google parent company Alphabet recently announced a 20-for-1 stock split, which will take place effectively on 15 July.
The news comes after Alphabet reported better-than-expected revenue and earnings in its fourth-quarter 2021 earnings report. The company saw its revenue grow by 32% and stock price increase by 7.5%. Since May 2020, the company’s value has more than doubled and is now worth almost US$2 trillion.
The announcement also follows a recent trend of stock splits; back in August 2020, both Apple and Tesla split their stocks 4-for-1 and 5-for-1 respectively after their valuations had skyrocketed.
If you don’t know what a stock split is and how it affects you as an investor, read on.
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What does a stock split mean?
A stock split is simply when a company splits its share to increase the number of shares and to lower the price of its shares, without diluting their value.
This is to increase a company’s liquidity when its share prices have gotten too high while allowing more investors the opportunity to invest in the company.
For example, say that you own 1000 shares of a company’s share at S$1,000 apiece. If a company undergoes a 2-for-1 stock split, this means that the company has doubled its shares and you now own 2000 shares instead.
However, since the company’s value isn’t affected, it means that now each share of the company has dropped to S$500. So while you own more shares after the stock split, you still own the same value (i.e. S$10,000 worth of stock and not S$20,000).
Why do companies do stock splits?
Generally, when a company announces a stock split, it is to signal confidence that its share price will continue to grow.
As mentioned above, the stock split is to attract more individuals to invest in the company by making the stock more affordable.
For value companies, the lower price per share is a chance to attract more investors and increase their marketability and liquidity.
Conversely, in a reverse stock split, it could be a red flag that a company is not doing too well and looking to increase its share price to avoid being delisted.
Is a stock split good news for investors?
As mentioned, existing shareholders will have additional shares after a stock split but they would still be worth the same.
However, there’s usually an uptick in interest in that stock after a stock split as the stock becomes more affordable. As more people buy the stock, it will push the stock price up, so existing investors looking for short-term gains might stand to benefit.
That said, remember that the bump is only temporary and will usually die down after a few days. In fact, you stand to gain more if you hold on to your shares for the longer term.
For a large number of people though, a stock split would make the stock more accessible and attainable.
For example, before Alphabet announced the stock split in February, it was trading at nearly US$3,000 per share. This is quite a big amount and new investors might be less inclined to buy.
But with Alphabet splitting its stock 20-for-1, the new price will be roughly US$150 per share. For many new investors, this is much more attractive and presents a handsome opportunity to invest in one of the biggest tech companies in the world.
Should you invest after a stock split?
If you’ve been eyeing a stock, then it’s generally a good time to invest after a stock split. Shares become more affordable after the split, allowing you to buy more shares. What’s more, it’s also a good sign that a company is doing well.
In fact, according to various studies, stock splits on average outperformed the market by 8% and 12% in one year and three years respectively. However, it’s also not uncommon to see negative performance after a stock split.
You should also do your research about the company and make sure that it fits into your investment objectives or portfolio. A good investment portfolio is well-diversified across different asset classes to minimise volatility during different market conditions.
For example, you can invest in exchange-traded funds (ETFs) and bonds. ETFs allow you to invest in a basket of stocks in different market segments and sectors so that you can spread your risk.
Although bonds offer lower returns, they offer stability during times of volatility; as they have a negative correlation with stocks, when stock prices fall, bond prices will rise and vice versa.
To start investing in the stock market, you need to open a brokerage account. Find and compare the best brokerage accounts below.
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By Kang Yen Joon
In my past life, I was always broke (I still am) because of a lack of financial literacy. These days, I publish a few posts every week* on personal finance to help you manage your money better.
*I mean, I’ll try