Splits and Starts

Last week’s two-day drop in the stock market caught a lot of people off guard and it’s continuing this morning after the holiday weekend. Stocks had been on a tear for a while and some investors were getting a little too complacent. Sounds familiar, right? Periods of relative calm followed by volatility slapping you in the face – that’s been typical market behavior in recent years and is common over the long-term. But it feels worse when markets get extra frothy based on short-termism and thin news.

An example of this short-term thinking is how day trading is coming back into fashion. In recent months “retail” traders have been plowing money into the big tech names, helping to drive prices up to nosebleed levels for certain stocks. The popularity of the Robinhood “freemium” trading platform illustrates this point. The firm makes it incredibly easy (maybe too easy) to buy shares of stock and reported over 4 million trades per day in June, eclipsing more established firms like TD Ameritrade and Schwab. This followed a large spike in trading on the platform during the early stages of the pandemic.

These numbers are reported with a lag, but we can assume this activity continued through the summer as a relative handful of stocks rode the wave of popularity. The narrative here is that younger unemployed folks were bored during the shutdown and started trading stocks with their stimulus money. They did well by getting lucky and got too enthusiastic. That seems overly pessimistic and a little harsh, but I can imagine many of these short-term traders getting caught unawares and dumping shares in recent days. That, plus the rapidly shifting sentiment of computer algorithms and other speculators who make up much of the day-to-day on Wall St, was certainly sufficient to blow some of the froth off tech stocks.

So, in addition to everything else impacting stock prices these days we have to add newbies with itchy trigger fingers trading stocks on their iPhones. At least it provides a clear example of what not to do. Speculation versus long-term investing; know the difference!

Another factor driving stock prices lately was news that Apple and Tesla were splitting their stock. An abundance of splits helped fuel the 90’s tech bubble but had fallen out of favor in recent years. The current price slide notwithstanding, the split news had a big impact on each company’s share price, so it’s possible more companies will want to split their stock. If so, this could be a tailwind for the markets as we emerge from recession.

Along those lines let’s review a few paragraphs from my research partners at Bespoke Investment Group, in which they look at the recent Apple and Tesla splits and what they might say about the makeup of the market.

Continue reading…

Let’s start off with the caveat that stock splits are irrelevant to the fundamentals of a company, and in a rational world shouldn’t matter with respect to the performance of an individual stock. Now, tell that to shareholders of Apple (AAPL) and Tesla (TSLA). Since its split announcement when it reported earnings on 7/31, AAPL has seen its market cap increase by over $500 billion. Meanwhile, TSLA announced its stock split in mid-August and saw its market cap increase by nearly $200 billion before pulling back in the last two days. That’s $700 billion for just two stocks! In the case of AAPL, the majority of that stock’s run can be attributed to its blowout earnings report that was released in conjunction with the stock split announcement, but for TSLA, there isn’t much to point to as a catalyst for the stock besides the split.

The number one barometer of a company’s performance is usually its stock price, and most CEOs and other members of the C-suite receive compensation based on the performance of their stocks. If you were a CEO watching the performance of AAPL and TSLA following their split announcements and had a stock with a high share price, what would you be thinking right now? There’s no shortage of those. As of this morning, 225 of the 500 stocks in the S&P 500 have triple-digit share prices, 50 have share prices of $300 or more, and six have prices above $1,000. Think about that for a second, back at the lows in March 2009, only five stocks had triple-digit share prices, and today six have quadruple-digit prices. That may not be an apples to apples comparison since March 2009 was a generational low while we’re at record highs now, but even if you compare now to the October 2007 peak, there are seven times more stocks trading at triple-digit prices now (225) than there were then (31).

One reason why there are so many more high-priced stocks now than there were back then is because CEOs have been reticent to split their stocks. Scarred from the dotcom bust and the financial crisis, no CEO wants to split their stock right before a bear market only to see their share prices drop to very low levels. These concerns on the part of CEOs show up in the statistics related to stock splits. So far this year, there have only been three stock split announcements from S&P 500 companies, and in the last five years, there hasn’t been a single year where even ten S&P 500 stocks announced stock splits. For the sake of comparison, in the five years leading up to the 2007 peak, an average of 31 S&P 500 companies announced stock splits. Leading up to the 2000 peak, the average was even higher at 86 split announcements per year! While companies have historically announced stock splits primarily because their share prices were high, today a stock split announcement is more likely to stem from not only a high share price but also confidence that the company has a strong pipeline of growth ahead of it.

Have questions? Ask me. I can help.

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