Know About Stock Split Without A Hair Split

  Author: Kundan Kishore

As investors get used to investing in stocks, they are bound to come across new terms. One such term is stock split. In case, you are wondering what it is all about, you need to read on.

What is a stock split? Stock split happens when a company divided its face value of shares and issues more shares. For instance, if a company splits is face value from Rs 10 to Rs 2. It means that the company will issue five shares of face value of Rs 2 each, for every one share of Rs 10 held by investor. However the company’s market capitalization (current market price multiplied by the number of shares) remains the same, as the price falls by almost the same proportion.

In the example we just provided, if the price before the split was Rs 100, after split, it will trade at about Rs 20. Also, remember that there is no change in fundamentals of the company and hence no change in the intrinsic worth of the stock.

Why companies announce stock splits The question then arises that it has no impact on the stock prices, why do companies do stock splits? There are two reasons:

·        First splitting the stock lowers the price, making the stock more attractive to smaller investors.

·        Second with this slicing, liquidity increases, as more shares hit the market, thereby, increasing the volume.

Also investors’ confidence gets boosted as they perceive that management feels confident about their own stock, and therefore, the stock usually does well when company announces split.

In short-term, some investors may cheer stock split, long-term research shows that there is no real relation between stock split and excess returns. After the company announces split, one has to wait till record date if one wants to buy additional shares. After the record date, one can only sell the shares when new shares are credited to demat account.

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