Stock splits are supposed to give you two shares instead of one but not necessarily increase the value of your investment. Many companies like to see their stock trade within a certain range. So, when the stock goes up a bit they split the stock. The surprising thing is that stocks that split seem to do better on the average than stocks that don’t. So, should you invest in stocks that split? USA Today says that the reason investors love stock splits is mostly a matter of psychology.
Stock splits might be one of the last corners of the market where emotion seems to trump logic. There’s absolutely no quantitative difference between owning 100 shares of a $20-a-share stock and 200 shares of a $10-a-share one following a 2-for-1 split.
Yet, there have been 41 stock splits by companies in the Standard & Poor’s 500 over the past three years. These stocks are up an average of 33% from the time they split to Wednesday’s close – topping the Standard & Poor’s 500’s average gain of 23.6% during the same time. That means holding all the companies’ shares that have split – on average – has been a winning strategy.
Why is this? Is it all perception? Here are two thoughts that come to mind.
Buying in Round Numbers
Certain types of investors like certain stocks and they like them at a certain price. If you have $5,000 to invest every quarter and you would like to buy 100 shares you might decide to stock with your regular $50 a share stock. If the stock climbs to $85 a share and then splits you can get your 100 shares for $4,250 and will be happy. There may well be people for whom this approach works.
Evidence of Success
Growth stocks run the risk of being overpriced. If Microsoft had never split it would be trading for tens of thousands of dollars a share today. Splitting the stock keeps the price where an investor can pick of a few shares within his price range. And, if a company splits their shares every few years it is because they are growing. Stock splits over time are evidence of success. NASDAQ talks about how to identify growth stocks.
Many investors attempt to find growth stocks, but how does an individual investor seek out and identify the best and brightest growth stocks for their portfolio? A savoy investor looks for specific fundamental characteristics to unearth these companies.
First, growth traders look for companies that are expected to grow at an above average rate, corresponding to the market as a whole. Further, analysts look for better than average cash flows, earnings, and or revenue growth.
When you invest in stocks that split routinely you are investing in stocks with stable and steady growth.
Growth and Value
The Motley Fool asks if a growth stock can be a value stock.
Can a growth stock simultaneously be a value stock?
The answer to this question is yes – though, it’s an uncommon occurrence. Normally growth stocks trade at premium valuations indicative of their growth rate. However, once in a blue moon, a growth stock comes along that also has a relatively low P/E and PEG ratio (a measure of future revenue growth relative to P/E), qualifying it as a value stock as well.
They give three examples, Gilead Sciences, 3D Systems and Apple. Apple does not generally split its stock but it may eventually have to. The point is that when you invest in stocks that split you are investing in growth and value.