How To Make A Profit On A Stock Split

By Jason Markum

Investing in the stock market can be an incredibly hard thing to do. There’s so much to learn about, and things seem to change overnight. Just when you get something figured out, the rules go and change themselves and you have to learn about a thing all over again!

One thing that seems to confuse people the most is the Stock Split. Most people don’t know what to do when a stock that they own splits. Should you be happy? Should you be worried? Should you sell your stock? Should you buy more? Is it a good sign? Is it a bad sign? No one really seems to know. It SEEMS like it should be a good thing, but how can you be absolutely sure?

That’s exactly what I want to talk about in this article today. When you’re done reading, you should have a fairly good idea of everything you ever needed to know about stock splits and whether or not they are actually a good thing for your stock market investment portfolio or the end of the world as some people might have you think!

So before we get into this in any greater detail, I should first explain exactly WHAT a stock split is. Basically, a stock split is exactly what it sounds like. Your stock splits in every way.

If you owned one share of stock that was currently priced at $100, you will now own two shares of stock that each have a value of $50. Your current price level is the same….which is $100 (1 share at $100 or 2 shares at $50 each, it all comes out to the same $100).

Because of that fact, many people who really know what they are talking about suggest that a stock split is a non-event! What’s the difference? (they say). Well, for the most part, they are right. But there are some things to take into consideration.

People buy stock based on price points. Some investors may not be able to afford an expensive stock that’s trading around $100, but they would like to buy the stock if it was trading around $50. So splitting stock may cause more people to buy it in the future. When more people want to buy a stock, its value generally increases due to the effects of supply and demand. While technically not true (any first year economics student can explain that you haven’t actually increased demand, you have just moved to a lower or higher point ON the demand curve) the logic seems to appeal to most everyday investors.

The two for one (or 2:1) split that I described is only one type of stock split that we see in the stock market today. Another common split is the four to one split (or 4:1). In this case if the stock was trading at $100 per share and splits four to one, you would now own four shares of stock that are each valued at $25 per share. Again we see that you are still left with $100 worth of stock (1 share at $100 is the same as 4 shares at $25 each).

Many times companies that split their stock are up to something. They may want to use shares of stock to go after other companies, purchasing them with their own stock. A stock split gives a company more shares to use to buy another company.

Likewise, a company may issue s stock split as a way to create a takeover defense against another company taking over them! Sometimes stocks will be split, creating different stocks with different voting powers that make it difficult for outsiders to gain control of a company.

Whatever the reason, you should be wary of a stock split because technically, as I’ve mentioned above, they serve no actual purpose. So if a company takes the time and expense to split it’s stock, it is almost certainly up to something and you should keep your eyes open!

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How To Make A Profit On A Stock Split

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