If you had a ten-dollar bill and I gave you two fives in exchange, would you be any richer? The answer to this question is the main thing to understand about the well-publicized stock splits announced by Apple and Tesla on Monday, August 31. Before their 4-for-1 split, Apple shares were trading at over $500, and pre-split Tesla shares were going for around $2,000. Tesla’s 5-for-1 split brought the share price down to about $480, and Apple is now going for about $130. Did portfolios with pre-split Apple or Tesla suddenly become more valuable? No.
So why do people get so excited when their stocks split? Well, the general idea is that a stock split like those just announced by Apple and Tesla makes the shares affordable for more investors. This is generally seen as a positive sign for the future. There is also such a thing as a reverse stock split: when companies decrease the number of shares outstanding, instead of increasing them. In a 1-for-2 reverse split, for example, if you had ten shares of a stock trading at $20, you would now have five shares, each trading at $40. But the value of your holding would still be the same. Reverse splits, however, are generally not seen as a good thing, because they are usually declared by companies with low capitalization whose shares have gotten so low in price that they could be mistaken for penny stocks.
It would be hard for anyone to mistake Apple and Tesla for penny stocks. These two companies have some of the strongest growth characteristics in the current financial landscape. That doesn’t mean, however, that investors should necessarily be rushing out to buy them while they’re “cheap.” In the first place, as explained above, they aren’t any cheaper or more expensive after the split than before. Instead, each share represents a smaller share of company ownership. Also, unless owning these individual stocks fits your asset allocation and risk tolerance strategies, you shouldn’t be considering them, just because shares are more affordable. What is more important is maintaining appropriate diversification and sticking with your long-term plan.
And by the way, a stock split—like almost any other financial event—is no guarantee of upward price movement. While it is true that when Apple split 7-for-1 in 2014, it gained about 40% over the course of the next year, it is also true that when they split 2-for-1 in 2000, the stock declined 60%.
If you are wondering about stock splits or any other financial or market matters, I would like to help you get answers. If you have questions or are interested in a complimentary consultation, please click here. To watch my interview on ABC-10’s Dollars and Sense, “Three Steps to Take before Investing,” click here.
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