You have been notified by your online broker that each stock you own in a certain company has multiplied by 10 overnight.
Congratulations, but before you start buying rounds it’s important to know the price of those shares were also slashed over night.
To kick off Financial Literacy Month, the Nova Scotia Securities Commission (NSSC) has issued a series of primers for investors including a video on how a stock split works.
Many of the most popular stocks in Canadian retirement investment portfolios have recently gone through stocks splits including Tesla, Nvidia, Honda, Google, Apple and Amazon.
You likely own one, or all of them, indirectly if you invest in U.S. equity mutual funds or exchange traded funds (ETFs) in your registered retirement savings plan (RRSP) or pension.
NSSC singles out two stock splits by Google in 2014 and 2022 to help explain. Both splits combined, each share listed when the company launched its initial public offering (IPO) in 2004 has been divided into 40 shares.
At the time of the IPO 20 years ago, one share traded at US$85. Today, Google (now Alphabet Inc.) is trading at what seems like a modest $176.
However, the number of shares at that price has increased 40 times; bringing the total value of the original share to over $7,000.
Why would a company want to split its stock?
If a stock split doesn’t change the overall value of the company why would it even bother?
In most cases, the company needs to widen its net to smaller investors to raise cash. $7,000 for one share in Google is pretty hefty for the average investor.
It’s a good signal to investors that a company, and its share price, are growing quickly and the prospect for future growth is bright.
While the market value of a company does not change immediately after a stock split, a study conducted by Bank of America Global research in June found that in the 12 months following a stock split, companies that underwent splits generated returns of 25.4 per cent on average, compared to a gain of 11.9 per cent for the S&P 500 Index.
Why a reverse stock split?
Less common, is a reverse stock split. A company will often reduce the number of its outstanding shares in the market hoping to boost its price.
A reverse stock split, as opposed to a stock split, is a reduction in the number of a company’s outstanding shares in the market.
It is typically based on a predetermined ratio, like a regular stock split. A two-to-one reverse stock split, for example, gives an investor one share for every two shares they currently own.
Reverse stock splits are usually conducted after shares in a company have sold-off substantially.
Unlike a regular stock split, a reverse stock split is a bad omen that more selling pressure is likely on the way.
Teachable moments
Online brokers are required to notify all shareholders of stock splits but advisors might find it too pointless to mention; like dividend payouts.
To learn more about stock splits, or if you want to broaden your overall investment knowledge, there are many online educational resources available for all Canadians who want to learn more about their finances.
Most banks and trading platforms offer tutorials on just about every aspect of trading. There are also plenty of objective websites that can explain finance and investing including one sponsored by the Ontario Securities Commission (OSC) called GetSmarterAboutMoney.ca.