Buy the Rumour Sell the Split?
Apple and Tesla have added 70% and 435% to their stock prices for the year-to-date, a large chunk of that gain happening after announcing their stock splits
Apple and Tesla have added 70% and 435% to their stock prices for the year-to-date, a large chunk of that gain happened after announcing their stock splits. Both are fantastic businesses but are overpriced based on fundamentals. Now that the split has happened, is it time to take your profit?
Stock Can Split You Say?
Stock splits are not something new. They’re really, really old. In ye olden days, if your business was incredibly successful, and your stock price had risen too much lots of people would no longer be able to afford to buy your stock (good luck to anyone trying to buy one share of Berkshire Hathway’s $BRK-A). Fewer people buying your stock means less demand, and therefore a lower stock price (usually).
Today this is less of an issue as many brokers offer the ability to buy fractional shares, although some investors will still prefer whole shares as these given them certain rights as stockholders, e.g. voting rights. However, the legacy of stock splits, together with a swathe of misconceptions means they tend to drive stock prices higher. Some misconceptions:
The split is 5-for-1, so I will be getting 400% extra value post-split. FALSE: you will have five shares each of which is 20% of the previous value, so the value is the same
The stock is cheap again! FALSE: Well kind of. In dollar terms, the stock is cheaper, but the value of the business has not changed, so the stock price relative to that value hasn’t changed
More people will be able to buy the stock at the cheaper value, therefore driving the price higher. TRUE: Although the question is how much this makes a difference in a world where professional investors can afford the higher-priced share, and retail investors often buy fractional shares
Professional investors know that stock splits shouldn’t matter, but also that #1 and #2 are so prevalent in the retail market that prices will go higher. Because of this, they jump in driving the market higher, seemingly confirming the misconceptions amongst retailers. For hot-running stocks like Tesla, this means enormous returns, creating FOMO and sucking in even more investors. And so a perpetual motion machine is made, or is it?
How Do I Make Money From This?
I really like Apple and Tesla. A lot. I’ve traded both for the past five years with enormous success, but am also a fan of their leadership, innovation and how they’ve changed the world. I would not short either - not because I’m a fanboy, or for any moral reason - because it is a high-risk move in a market that is currently irrational. I have trimmed my $TSLA positions down to just about nothing accepting that there could be a melt-up, but the fundamentals are insane at current levels. On the other hand, $AAPL is only looking a touch expensive, so I will hold what I have.
More interestingly is the “split mania” that I’m anticipating. Alphabet and Amazon are expensive per unit of stock and will be eyeing the success of recent splits. If they do, I think it will be time to ride the wave of misconceptions once again.
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