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Stock Splits
Stock
splits can be both profitable and give subtle guidance through
the investment fog. Usually a company's board of directors
has a range they would like their stock to trade within. With
strong earnings and product reports, accompanied by a robust
market a stock can rise above that desired range. Most investors
prefer to buy stocks in 100 share increments despite the general
disappearance of hefty odd lot charges for orders of less
than 100 shares. As a stock price becomes lofty fewer and
fewer investors can comfortably buy 100 share lots of the
stock. Thus when a share price gets higher than desired
the company's board of directors will declare a stock split
to bring the share price back into a customary range and increase
the accessibility to the stock by the average investor.
The typical stock split announcement
contains the ex-dividend date; the payable date, and the ratio
of the stock split. The ex-dividend date is the first day
the stock will trade without a buyer being entitled to the
extra shares. The payable date is the date in which the shares
will trade at the split adjusted share price. Selling shares
in a stock about to split can have some oddities to it and
you should double-check the particulars with your brokerage
house. The ratio of the split is usually 2 for 1, or 3
for 2; and is sometimes written as a ratio like 2:1, or 3:2.
What can we learn from stock splits and how can we profit
from them? There are clear and subtle phenomenons associated
with stock splits. The obvious first observation that can
be made is that the share price has recently run up. That's
great news! Spitting stocks are usually seeing price appreciation.
Some investors intentionally buy shares of a company just
before they split and other investors intentionally buy shares
just after they split because the price seems more accessible.
Either way there is an increased number of buyers of a stock
around the time when it splits. Stocks can receive more media
attention when they split. Boards of directors declaring a
stock split often declare further splits in the future. Some
high-flying tech stocks were split on 3 or 4 separate occasions
in the 9 months prior to March 2000. Four 2 for 1 stock splits
turns 100 shares into 800 shares. Another interesting phenomena
is caused by the casual investor who is use to seeing his
favorite stock around $50 and then unaware of the split sees
it trading post-split at $38 or $42 and decides to pick up
more shares because it is currently a bargain.
The one nasty "split"
that rarely has its intended outcome, and should flash a bright
red light in your eyes is the reverse stock split. This
is sometimes used to inflate a low price share to make it
more attractive to mainstream investors. A $20 stock may seem
more acceptable to investors than a $4 stock. So the company
does a 1 for 5 reverse split. Unfortunately the observed outcome
is a share price that like the regular split tends to return
to its pre-split price. Only in this case decreasing in value
by 80%.
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