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Stock Splits: What They Are
and How They Work

By Adam Rudt
September 2020

In early August, Apple and Tesla both announced that they were splitting their stock in a 4:1 and a 5:1 split, respectively. In the days following these announcements, both companies’ share prices shot up by over 15%. This widely talked about and peculiar situation begs the question, what are stock-splits?

The answer, I would argue, is too simple for the commotion that they cause. A stock-split is when a company makes multiple shares of lesser value out of a single share of greater value. A shareholder will still have the same stake in a company before and after a stock-split. For instance, if I own one share of stock A valued at 200 dollars a share, a 4:1 split would leave me with four shares valued at 50 dollars a share. Companies typically issue new shares as dividends like during Tesla’s 5:1 split when shareholders were given 4 shares for every share that they had pre-split. Added with the original share that they kept, shareholders ended up with 5 shares for every one that they had before.

If stock-splits don’t actually add value, then why would a company call for one? The best reason is behavioral economics: a world where five $10 bills are better than one $50 bill and 100 is a “good-looking” number. Young, independent traders with little capital are more likely to buy multiple shares of a low-priced company than a single share of a high-priced company. With more shares, traders feel like they have a greater stake in their investments, even if they don’t actually have one. By fake-increasing the buying power of this demographic, companies may draw more attention and increase the liquidity driven to themselves. Furthermore, financial institutions traditionally package securities (specifically derivatives like options) in groups of 100. By lowering their share-prices, companies make these groups of 100 more affordable, although this reason has an impact on a small scale.

Many companies recognize the worthlessness of stock-splits. Warren Buffett has famously avoided splits of Berkshire Hathaway stock which has resulted in it trading at over $300,000. Accordingly, in 1984 Buffett reasoned that a split would “attract an entering class of buyers inferior to the existing class of sellers.” These buyers would not be focused on the actual value of the company, but would be deceived by their own perceptions. However, not all investors who purchase stock after a split are as “inferior” as Buffett thinks. In a high-stakes game of “dumb-and-dumber,” these investors try to take advantage of the hysteria that splits produce. They buy not because they believe the split increases company value, but because they know that others think it will. 

Some economists take the position that stock-splits have a silver lining for young, low-capital investors. Classified as the “penny-stock craze,” they say that these low-capital investors typically take high-risk, decent-reward positions, which result in major losses. In certain scenarios, stock-splits can make share-prices of major companies so low that they begin to replace high-risk penny-stocks in the eyes of investors. This could mean that young investors will begin to take safer positions rather than get sucked up in the so-called “gambling” that so many economists detest.

In general, the hype around stock-splits seems to be more implicit of the trend towards personal trading. With low-commision brokers like Robinhood gaining recent traction, investing is something that anyone can get into, no matter how ill-informed about the stock market they are. For many institutional investors and economists, this influx of young, inexperienced traders is dangerous to the sacred art of investing. Others are happy to see normal people taking interest and control in their personal finances. Me, I’m just excited to buy Apple stock at under $150 again. 


Freeman, Bradley. "Did Apple and Tesla Stock Splits Signal the Stock Market Top?" The Motley Fool. September 13, 2020. Accessed September 9, 2020.

"Major Outages at Robinhood and Schwab Were Spurred by Stock Splits for Tesla and Apple, Report Says | Markets Insider." Business Insider. September 4, 2020. Accessed September 10, 2020.

Sebastian, Dave. "Tesla to Sell Up to $5 Billion in Stock." The Wall Street Journal, September 1, 2020. Accessed September 10, 2020.

Stock Splits: What They Are and How They Work: Services
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