What Is a Stock Split (and Should You Buy)?

You’ve probably heard lots of buzz around stock splits — when a company reduces the cost of its shares by doubling or tripling (or more) the number of shares it offers.

These events can get a lot of media attention, and they’re often seen as a sign that a company is fast-growing. But should you invest in a stock split? And if you decide to jump on a stock split after the fact, is it too late?

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How Does a Stock Split Work?

To understand a stock split, you first have to understand what a stock is. In simplest terms, a stock is a fractional ownership of a company. 

Let’s say a company has 100 shares. A shareholder with one share would then own 1/100th of the company — or a 1% total ownership stake. 

If those shares were each worth $100, the market capitalization of the company would be the number of outstanding shares (100) multiplied by the share price ($100). Mathematically, that looks like: 

100 shares x $100 = $10,000 market cap

Now, if the board of directors decided to split the stock with a straightforward 2/1 forward split, the number of outstanding shares would double from 100 to 200 — and the share price would reduce to $50. 

A shareholder who held one share would now hold two and those two shares would still be a 1% ownership stake in the company (2/200). 

The market capitalization is 200 shares multiplied by $50, and unchanged at $10,000. 

READ MORE: Investment Terms to Know If You’re a Beginner Investor

Why Do Companies Split Stock?

To understand why a company would split stock, you have to go back in time to a land before everyone traded stocks on an app on their phone — that’s just before 2019. 

Back then, brokerages required you to purchase stocks in whole shares (some still do). If you wanted to buy a share of Apple at today’s price of $207.49, you had to have at least $207.49. 

The higher the price, the higher the barrier of entry for small investors who were limited by how much money they had. If you only had $200 under those rules, you wouldn’t be buying any Apple today.

Historically, splits were a routine occurrence that would happen whenever share prices climbed too much over $100 — CEOs and boards were targeting between $20 and $80 per share. 

READ MORE: How to Start Investing When You Don’t Have Much Money

Split stocks boost trading volume

While who purchases their stock doesn’t figure into a company’s math, the number of people who can trade their stock does. Trading volume is a measure of a company’s liquidity, or how easily those shares can be bought and sold. 

Since there are far more traders who can purchase a $50 share than a $500 share, trading volume is inversely proportional to the share price. 

A stock split means that more people can buy, so the company gets more investors. And how frequently a stock split was seen as a sign of how fast a company was growing. 

For example, Walmart (WMT) split its stock nine times from 1975 until the last split in 1999 and was among the fastest-growing companies in the U.S. during that period. 

During the dot-com era, stock splits would happen weekly and low share prices fueled trading at previously unseen volumes.

READ MORE: Active vs. Passive Investing: Which Is Best?

Types of Stock Splits

There are two different types of splits but the most common is a 2/1 forward split. That’s when one share of stock becomes two and is expressed as “2-for-1” or “2/1.” 

Other multiples are possible. Amazon and Google have both conducted 20/1 splits, Tesla a 3/1, and Apple a 4/1. Chipotle recently announced a 50/1 split. 

On June 7, 2024, tech giant NVIDIA conducted a 10/1 stock split — a $1,200-per-share stock became 10 shares at $120 each. 

After their announcement, the share price got a substantial boost of 27% — although analysts are divided on how much of that boost was attributable to a strong Q1 2024 earnings report and how much was market buzz. 

In all cases, the number of shares is increased while the price per share drops proportionally. 

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Less common is a reverse split. That’s when two or more shares become one share and the price per share increases proportionally. 

This is commonly referred to as a “1-for-2” or a “1/2” split. 

In some cases, a company’s share prices might have fallen below the minimum listing for its stock exchange, and the company risks being delisted. 

EV automaker Nikola recently announced a 1/30 split to boost its current $0.40 share price above the NASDAQ $1.00 per-share minimum.

Benefits of a Stock Split

Stock splits can be a way to buy previously unaffordable shares. Because of this, there are more potential buyers, and this ability to easily buy and sell shares means more liquidity for investors. 

Also, market buzz can boost share prices.

Companies announcing splits get media attention and will frequently get an uptick in market interest. That market interest frequently (but not always) results in an uptick in share prices. 

With over 6,000 publicly traded companies in the U.S. competing for investor dollars, media attention to stand out from the crowd is generally a positive effect.

Disadvantages of a Stock Split

More investors buying and selling shares means that the stock can experience increased price volatility. 

As a counter-example, Berkshire’s Warren Buffet steadfastly refuses to split Class A (BRK-A) shares despite the eye-watering price of $615,001 each. That barrier to entry means that on an average day, just over 13,000 shares change hands. 

Buffet’s favorite holding period is forever, and he wants that to apply to his Class A shareholders as well.

Also, splits don’t always reflect a company’s long-term potential.

While stock splits are frequently a sign of a healthy, growing company, it doesn’t change anything about the company’s market fundamentals. 

A lower share price doesn’t mean a poorly run company is a better deal. Both good and bad cakes can be cut into smaller slices. 

Are Stock Splits Good for Investors?

Buying a split depends on your investing goals and risk tolerance. 

• Healthy and growing companies tend to split their stock routinely. Owning healthy and growing companies is the goal of a long-term investor. 
• Companies also frequently get a price boost from split announcements and can post some impressive gains in short periods. Short-term gain is the goal of a frequent trader. 

That said, a split by itself means nothing concrete about the fundamentals of a company. 

Enron conducted a 2/1 split just a year before its epic collapse in August 2000. GameStop conducted a 4/1 split in July 2022 even as it was the subject of Congressional inquiry over the 2021 trading mania for the dying company. 

The frequent short-term market boost is an unpredictable effect at best. Market buzz can easily become market hype and leave you holding an empty bag.

While short-term traders can often benefit from a “buy the rumor, sell the news” approach, it’s a risky strategy that can backfire spectacularly. 

For the long-term investor, stock splits are probably best considered as only one indicator among many, like earnings per share, price to earnings, revenue, and profit.

READ MORE: What To Look for When Buying Stocks

With fractional shares, do stock splits still matter? 

As I mentioned, stock splits were originally a way to reduce share prices to affordable levels, since investors could only purchase whole shares. 

Since 2019, that has largely been relegated to the dustbin of history. 

Fractional trading is the ability to buy and sell less than a full share and is quickly becoming the industry norm. You can simply invest on a per-dollar basis rather than on a per-share basis.

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Although fractional trading isn’t available at all brokerages, as of this writing it’s available at Webull, Robinhood, M1 Finance, and others, as well as through major industry players like Schwab and Fidelity. 

Fractional trading through these brokers is extremely affordable — for example, Webull lets you buy fractional shares starting at just $5.

While industry analysts believe fractional trading won’t soon replace stock splits, it does remove one of the primary reasons stock splits happen. 

But as long as companies can benefit from the psychology of investors and the media attention a split generates, we’ll see it happen periodically. 

FAQs

Is it better to buy stock before or after a split?

If a stock is out of your price range, then waiting for after the split means you can own some shares. Or, if you can afford the heftier price tag, then buying before the split means you'll come out with more shares.

Neither is better or worse — there's no guarantee in investing and while stock splits do often lead to increased interest in a company (and therefore an increase in value), the opposite can also be true.

Do stocks usually go up after a split?

The value of a company's stocks typically does go up after a split, since a split usually generates a lot of buzz and brings in more investors. But there's no guarantee, and it depends on market conditions and how the company is run overall.

If you own shares in a company and the stock splits, the value of your investment will stay the same as it was pre-split — you'll just now own more shares.

What is a reverse stock split?

A reverse split, also known as a 1/2 split, is when two or more shares become one. This is often because a company's share prices have dropped below they minimum required to be listed on its stock exchange.

For example, a stock that is selling at $0.50 but needs to be $1 per share to meet the minimum, might do a 1/2 split. Each share would then become $1 each. This reduces the number of shares overall that a company has available to sell.

TL;DR: Is a Stock Split Good or Bad?

Generally, when a company splits its stock, it's considered a sign that the company is growing.

But stock splits can also cause a lot of volatility and they don't always match up to a company's financials. Some companies have split and then crashed shortly after. Others have kept going up and up.

Jumping on a stock split can score you shares in a company that was previously beyond your reach, but it's still important to consider the whole picture before putting down your hard-earned cash.

For more investing insights, check out these episodes of the Erika Taught Me podcast:

• Investing in the Stock Market Explained: A Guide for Beginners
• Investing Advice from the Most Powerful Woman on Wall Street
• Money & Investing Pitfalls to Avoid

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