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Stock splits show less is more in today’s market

Stock splits are financially meaningless, but the recent rush of them could be meaningful.

Google parent Alphabet, Tesla, Amazon.com, GameStop and Shopify all have announced plans for stock splits in the past few months. This year, S&P 500 companies are announcing stock splits at the highest rate in 10 years. The recent rise is yet another illustration of who exactly is driving the market these days.

Research shows companies that undergo stock splits have outperformed the S&P 500 on average. Citing Bloomberg corporate action data, research from BofA published in early February shows that since 1980, performance of companies that have announced splits is more than 6 percentage points better than the S&P 500 on average three months following the split and more than 16 percentage points better on average 12 months following the split.

But, as is often the case, correlation doesn’t necessarily equal causation. As BofA notes, some observed outperformance was likely due to momentum. Companies have historically pursued splits because their share price has risen and they expect that outperformance to continue.

More democratized access is commonly cited by companies as the primary driver of a split. Earlier this year, Alphabet Chief Financial Officer Ruth Porat told CNBC her company was pursuing one based on feedback that Alphabet’s stock should be more accessible, noting that the split would be “incrementally helpful for some investors.” Similarly, Shopify last week said in a regulatory filing its planned stock split, “will make share ownership more accessible to all investors.”

But stock ownership today is already more accessible than it has ever been. Individuals have for years been able to buy fractional shares in companies. They can trade through a dizzying list of financial-services platforms such as ETrade, Charles Schwab, TD Ameritrade, Fidelity, TradeStation, Robinhood, WeBull, eToro, and even Cash App (Block). Robinhood, which offers commission-free trading and in 2016 famously tweeted “Let the people trade,” became so accessible last year that it had to temporarily stop the people from trading especially volatile stocks such as GameStop.

If the past few years brought the meme-stock craze, we may now be seeing a stock-split craze. Big money flooded freely into the tech sector in 2020 and early 2021 coincident with low Treasury yields. As tech stocks in particular have sold off in the past few months, companies are now having to work that much harder to make their shares stand out.

Indeed, the most important conclusion to the rise in stock splits this year, according to BofA’s investment and ETF strategist Jared Woodard, is the signal it is sending about the profound shift in management priorities “as the shareholders strike back.” Shopify has shed nearly 60% of its market value—worth some $100 billion—just this year, and even Amazon.com and Alphabet have lagged behind the S&P 500.

Within the S&P 500, BofA counted five stock-split announcements this year as of early last week—roughly the average annual number we have seen for companies in that index over the past five years. Assuming that pace continues, retail investors would be in a better position to take advantage of a total of about 18 stock splits from S&P 500 companies this year. And there could be far more than that: As of early February, 17% of the S&P 500 was trading above $500 a share, or 85 companies, BofA found.

Retail appeal isn’t necessarily a bad thing. BofA notes one possible explanation for the “meme” stock phenomenon last year could be that a large percentage of the investment community then felt priced out of higher quality growth names. A rise in splits among large-capitalization companies can lure these investors into higher quality names. On one hand, money is money and, assuming they stick around, their investments can collectively be used to fund constructive growth.

On the other hand, a rush of unsophisticated investors into sophisticated names could create volatility that is divorced from fundamentals, threatening to do a whole lot more damage than what buying into a bankrupt rental-car company or passé videogame retailer ever could have. Recall Warren Buffett’s warning in a 1984 shareholder letter: “People who buy for non-value reasons are likely to sell for non-value reasons.” Splitting shares of Berkshire Hathaway back then, he said, would “attract an entering class of buyers inferior to the existing class of sellers.”

Over the past 40 years, the height of stock splits came around the time of the dot-com boom. And we all know how that ended.

This story has been published from a wire agency feed without modifications to the text

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