What Investors Should Know About Stock Splits

A stock split occurs when a company divides its shares to increase the number of outstanding shares in the market. This lowers the market price of each new share without changing the company's market capitalization or fundamentals. Cliché or not, there's a pizza analogy that helps illustrate this concept. Stock splits are like cutting a pizza into 10 slices instead of five—there are more pieces, but the total size of the pizza doesn't change.

While stock splits can take many forms—the most common being 2-for-1, 3-for-1, and 3-for-2, they are often executed at higher ratios, particularly when a stock's price has risen dramatically. Some recent splits have created as many as 50 new shares for each original share.

A stock split becomes effective only after the company's management and its board approve the split (a decision sometimes called a forward stock split) and publicly announce it.

There's no standard timeline or price per share threshold for a stock split. Some companies split their shares regularly, while others choose to allow their stock prices to climb. Warren Buffett's Berkshire Hathaway has famously refused to split its Class A stock for decades, hoping to attract long-term investors and discourage speculators with a high stock price.

In a 2-for-1 stock split, for example, investors receive one additional share for each share they own, the stock price is halved, and the number of shares outstanding doubles. For an investor who owns 100 shares trading at $50 ($5,000 total value), a 2-for-1 stock split would leave them with 200 shares worth $25 each (still a $5,000 total value).

Many of the largest companies in the S&P 500^® Index have undergone multiple stock splits throughout their history. Here are two examples:

• Nvidia (NVDA) has completed six splits since its IPO in 1999. The latest was a 10-for-1 split in June 2024, which reduced the stock's price from around $1,200 to $120. Nvidia said it executed the stock split to make stock ownership "more accessible to employees and investors."
• Walmart (WMT) has split its stock 13 times since going public in 1970. The most recent was in February 2024 (while still on the NYSE), when it underwent a 3-for-1 split, reducing its share price from around $175 to just $58.

Companies split their stocks for several reasons, but investor psychology is often a key factor. As a stock's price climbs, some investors may begin to view the shares as too expensive or out of reach. A split, in theory, takes the price down to what may be a more accessible level.

A lower stock price can help investors with smaller portfolios acquire shares without overweighting one stock, allowing them to maintain their preferred asset allocation and diversification mix. Reduced share prices can also make options more accessible. Since a standard equity options contract typically represents 100 shares, a single call option for a stock trading at $1,000 would represent $100,000 worth of stock—a level that's out of reach for many retail investors.

Additionally, when investors believe they can buy more shares at a lower price, they sometimes incorrectly perceive that as getting a "deal" on the stock, even though the company's market value hasn't changed. In many ways, stock splits are often more about optics than fundamentals. Also, the rise of fractional shares—a strategy that became mainstream in the last decade and allows investors to buy a piece of a single share—has made this price-reduction rationale less common.

Some experts argue that companies split their stocks to boost liquidity and trading volume. A lower share price may increase the number of potential buyers and make shares easier to trade. Additionally, stock split announcements have historically been associated with short-term price gains, another potential incentive for management teams to split their stocks.

There are a few important dates investors should remember when it comes to stock splits:

• Announcement date: The company announces its intention to split its stock.
• Record date: The company determines which shareholders are eligible to receive additional shares. A shareholder must own the stock by this date to be eligible.
• Distribution/payable date: Additional shares are credited to shareholders' accounts.
• Effective date: The stock begins trading at its split-adjusted price.

Stock market professionals have long debated the merits of stock splits and whether investors realize any benefit.

While stock splits are often associated with benefits like improved liquidity and increased retail participation, research on their impacts remains mixed. The table below outlines some commonly cited potential benefits and drawbacks of stock splits.

In a reverse stock split, a company combines multiple shares into one, reducing the number of outstanding shares and increasing each new share's price without changing the company's market capitalization.

For example, if a company with 1 million shares trading at $10 per share executes a 1-for-2 reverse stock split, the number of outstanding shares would drop to 500,000 and the per-share price would rise to $20 ($10 x 2).

With a reverse split, a company can potentially reduce the volatility of its shares or dampen speculative trading by making shares more expensive to trade. Companies may also engineer a reverse split to keep their share price above a set value, such as $1, when falling below that price point would cause the stock to be delisted from its exchange. However, investors and analysts sometimes view reverse stock splits as a bearish signal because they can be a last-ditch effort to avoid delisting and may be a sign of financial distress.

Using a stock split as the deciding factor when considering to buy a stock is commonly seen by investing professionals as inadvisable.

While some long-term investors view stock splits as bullish developments due to their potential benefits, ultimately, splits don't directly impact a company's value or fundamentals—and past performance is no guarantee of future results. For long-term investors, it's far more important to focus on fundamentals like revenue growth rates, margins, and debt levels than corporate actions like stock splits.

However, short-term traders might consider strategies intended to take advantage of potential pricing glitches around stock split announcements. For example, traders might anticipate that increased investor attention and positive sentiment after a company announces a stock split may temporarily push its stock price higher.

Still, at the end of the day, it may be better for both long- and short-term investors to view stock splits as just a piece of a more holistic investment thesis rather than an outright buy or sell signal.

Stock splits increase the number of shares a company has on the market while proportionally reducing share prices, but they don't directly impact the company's value or its operations.

While they may increase liquidity, signal management confidence, or make stocks more affordable, investors should mostly view stock splits as cosmetic adjustments. Understanding stock splits can help investors avoid confusion over sudden price shifts, and potentially shed light on market psychology, but it's important not to overestimate their impact.