Read on to learn about what a stock split is, what it means for investors and whether you should buy stock before or after a split.
What does it mean when a company splits its stock?
A stock split happens when a company’s board of directors decides to increase the number of shares outstanding, giving current investors more shares but with a lower value.
Stock splits are typically defined by a split ratio, like 2-for-1 or 4-for-1.
In a 2-for-1 stock split, investors get an additional share for each share they currently hold, with shares now worth half their value before the split.
A 4-for-1 stock split gives shareholders four times the number of shares in their portfolio, with each share worth a quarter of its previous value.
Why would a company split its stock?
Stock splits typically occur when a company’s share price becomes too high for everyday people to buy.
For most casual investors, stocks going for hundreds or thousands of dollars a share aren’t affordable — unless they use an app like Robinhood, which lets them buy fractional shares.
Splitting a stock makes individual shares more affordable without changing the company’s overall value in the market and makes those shares easier to buy and sell.
In some cases, stock splits can also bump up share prices over time. Smaller investors may jump at the chance to purchase low-cost shares of a blue chip stock after a split, which will in turn boost demand and drive up the price.
A 2019 Nasdaq study found that, following a split, big companies saw their stock outperform the market by an average of almost 5% over the next year.
Do you lose money if a stock splits?
If you already own shares in a company that splits its stock, the split won’t change the value of your investment.
It’s true that your shares will be worth less, but you’ll also own a proportionally larger number of them.
And as we mentioned above, a stock split generally spells good news for shareholders, since the increased demand from smaller investors may cause shares to appreciate in price.
Stock split example: Apple
Apple’s end-of-August stock split is the fifth in the tech giant’s history.
It has a ratio of 4-for-1, which means that Apple shareholders’ portfolios will now contain four times the number of shares they held previously, and each share will now be valued at a quarter of its previous worth.
So, if you owned 20 shares of Apple stock (APPL), valued at around $500 right before the split, your total investment would be worth $10,000.
Once the split is over, you’d own 80 shares of APPL, worth around $125 a piece. Your total investment of $10,000 would stay the same.
What is a reverse stock split?
In tough times, a company may decide to do a reverse stock split. As the name suggests, it’s the opposite of a traditional split.
In a reverse split, shareholders get fewer shares than they previously held but at a higher price per share.
So if you held 200 shares in a company that were worth $5 each, after a 1-for-4 reverse split you’d have 50 shares worth $20 each.
Reverse splits typically happen when a company’s share price is at risk of dropping so low that the stock gets kicked off a stock exchange. The New York Stock Exchange, for instance, typically deals in stocks worth a dollar or more.
What stocks might split in 2020?
Although Apple and Tesla (TSLA) may be the two most recognizable brands to split their stocks in 2020, don’t be surprised if other well-known companies follow suit this year.
There are a number of blue chip stocks currently going for four digits a share that could be ripe for a split. Amazon (AMZN) is sitting well above $3,000 per share, while Alphabet (GOOGL), the company that owns Google, is trading at more than $1,500.
Other stocks hovering above $1,000 a share include Chipotle (CMG), AutoZone (AZO) and Booking Holdings (BKNG), the company that owns Priceline.
However, a high price doesn’t guarantee that a stock split is imminent. Berkshire Hathaway, the conglomerate led by billionaire Warren Buffett, has famously never split its main stock (BRK.A), which cost more than $326,600 per share as of late August.
So is it better to buy before or after a stock split?
If you didn’t know much about stock splits, you might be tempted to buy early because you’ll wind up with more shares than you originally purchased. Remember, though, the value of those shares will drop proportionately.
As a result, it doesn’t really make a difference whether you buy shares before or after a split, assuming you’re investing for the long term.
The price may increase after a split due to increased demand, but this fluctuation probably won’t have a noticeable impact if you’re planning to hold on to your shares for a while.
The main perk of waiting for a split is that you’ll be able to purchase shares more easily if you only have a small amount of money to invest.
But if you don’t want to wait, or a split never comes, you can use Robinhood to purchase fractions of a pricey stock.
And if you sign up for Robinhood using this special link, you’ll get a free stock worth up to $228.91. There’s a 1 in 40 chance you’ll wind up with a share of GE, Ford or Kinder Morgan, and a 1 in 150 chance you’ll get a stock from Microsoft, Visa or Johnson & Johnson. That’s one way to nab a valuable stock.