Definition and Functioning

If you've ever wondered how suddenly a company you're watching seems to offer more shares for the same price, welcome to the magical world of the "stock split"! Now, grab your investor glasses because we're going to break it down.

A stock split is a technique used by companies to increase the number of shares in circulation by proportionally decreasing the value of each share. Think of it as slicing a pizza into more pieces without changing the total size of the pizza. The market's appetite remains the same, it's just presented in smaller pieces.

How Does It Work?

Simply put, stock splits work like this: a company decides to multiply its number of shares by dividing the value of each one. For example:

• 2-for-1: For every share an investor owns, they receive an additional one. The price per unit is halved.

• 3-for-1: You pay for one share and get three, at a third of the original price.

These strategies are quite common when a stock's price soars and reaches high levels. Why? Because a high price can scare off potential investors, who love to buy low, and who doesn't?

Motivations Behind a Split

Typically, companies perform splits to:

• Increase liquidity: More shares at a lower price are usually easier to trade.

• Dispel the "high price psychology": High prices can cool off new investors.

• Enhance the appearance of affordability: They attract retail investors with a lower cost per share.

This sounds like business magic, but unfortunately, a split does not change the value of the shares an investor owns. In effect, your pie is still the same size, just now in smaller pieces.

Impact on Investors

Ah, the impact of stock splits on investors: a topic as complex as diving into a finance book, but with the thrill of stock markets.

The First Impression

For investors, the initial feeling about a split is like getting two for the price of one at the store. At first glance, it seems like you have more without paying more. However, like low-calorie ice cream, it's just an illusion.

Although it doesn't directly influence the total value of your investment, a stock split can increase its popularity among retail investors. But is popularity really what we're after?

The Psychology Behind the Market

In the stock market world, perception is everything. When stocks seem more accessible, more investors are willing to buy them. This can create upward pressure on the price of those shares, leading you to the investor's paradise: profits.

Moreover, a split can positively influence the perception of a company's performance, making it appear stronger or more promising. As if they're shouting: "We're making money, folks!"

Risks and Rewards

While increasing the number of shares might seem great for attracting more investors, it can also increase volatility. Don't forget, dear reader, that what goes up quickly can fall just as fast.

• Beware of Overvaluation: The excitement over a "low price" can artificially inflate stock value.

• Market Movement: While some splits can be a positive indicator, not all splits are a harbinger of guaranteed success.

Recent Examples

You may have heard news about a recent split and wondered: "Am I missing something important?"

Tesla Case: 5-for-1

In 2020, Tesla conducted a 5-for-1 stock split. Before the split, a single share of Tesla cost more than what many would pay for a decent used car. After the split, the price reduced to a fifth, and yes, the market roared like a convertible in spring.

This move made the shares more attractive to small investors, and thanks to its popularity, it boosted post-split prices as the WallStreetBets buzz reached the stratosphere.

Apple Does Not Fall Behind

In the same year, Apple also conducted a 4-for-1 split, showing the world that not only Tesla can do magic with numbers. After the split, Apple's shares began to show impressive performance.

This highlights how big companies can thrive by performing splits at the right time, capturing the attention of investors hungry for opportunities.

What's Next?

A quote from Benjamin Graham, author of the famous "The Intelligent Investor," can summarize the sentiment towards stock splits: “The stock market is filled with individuals who know the price of everything, but the value of nothing.” So, as an investor, it is essential not to be swayed by the appearance of the split and focus on the intrinsic value of the company.