What is a stock split?
A stock split is when a company divides the number of existing shares in issue into multiple new shares, causing the number of shares to increase by a predetermined multiple. This is designed to reduce the price of each share without impacting the overall value of the business. Put another way, the size of the pie stays the same, it is simply cut into more slices after a stock split is complete.
Tesla 3-for-1 stock split
Tesla has completed a 3-for-1 stock split, which saw investors receive two additional shares for each one they already owned when markets closed on August 17. The new shares were distributed after the closing bell on August 24 and Tesla begins trading on a split-adjusted basis when markets open today on August 25.
Tesla stock split: Why did Tesla split its stock?
Tesla said the main reason it decided to split its stock is so it can continue to offer attractive compensation packages to employees that include options over equity. It said the stock split would ‘help reset the market price’ so that ‘employees will have more flexibility in managing their equity’.
A stock split lowers the value of each share in issue. Tesla shares closed on August 24 at $891.29 and will therefore begin trading on a split-adjusted basis at around $297 per share. This should improve liquidity by making the stock more accessible to more people – particularly individual retail traders with less money to deploy. Tesla has said retail investors ‘have expressed a high level of interest in investing in our stock’.
Tesla completed a 5-for-1 stock split back in August 2020. Tesla shares went through a period of volatility in the days and weeks after the split, but it ultimately provided a catalyst considering the stock managed to rally almost 60% between the stock split being completed and the end of 2020. The surge in value helped propel Tesla into the S&P 500 index that year.
The need for a catalyst is even greater this time around considering Tesla shares have fallen over 18% since first announcing its stock split plans back in March and lost over one-quarter in value since the start of 2022.
Big Tech stock splits gain momentum
Stock splits are becoming increasingly popular among the largest corporations in the US. Major players including iPhone maker Apple and chipmaker NVIDIA have completed stock splits in recent years, while Amazon and Alphabet have also split their stock this year.
One of the reasons stock splits have grown in popularity is because of the explosion in value that Big Tech has experienced in recent years, before the selloff began in 2022. For example, Apple shares had risen from below $40 to over $124 in the three years before it launched its last stock split, while NVIDIA’s share price more than doubled in the same timeframe before its own announcement back in July 2020.
How to trade the Tesla stock split
Research from Bank of America suggests stock splits have historically been bullish for companies that complete them and that they tend to outperform the wider market during the 12 months after the split has happened:
This suggests stock splits have proven to be a boon for share prices in the past by making them more accessible to retail traders, which can bring more liquidity into the market and provide support.
However, while Amazon and Alphabet have found higher ground since completing their stock splits earlier this year, both have lost significant ground since announcing the plans in early 2022 – suggesting the dependable support that stock splits have previously provided is not as applicable in the tough environment this year.
Plus, Tesla still demands a lofty valuation even after the stock split. It trades on a price-to-earnings ratio of around 71x based on its forecasted EPS for 2022, while the S&P 500 trades closer to 20x. That is also bloated compared to the ratios of traditional automakers like Ford at 7.5x and General Motors at 5.8x.
Remember, stock splits do not influence the overall valuation of the company or change the underlying investment case of the business. They add zero value and make no difference to how the business performs. This has led some criticism that stock splits can unduly inflate share prices by simply enticing more retail investors in.
How to trade Tesla stock
You can speculate how the stock split will impact Tesla shares with City Index in just four easy steps:
- Open a City Index account, or log-in if you’re already a customer.
- Search for ‘Tesla’ in our award-winning platform
- Choose your position and size, and your stop and limit levels
- Place the trade
Or you can try out your trading strategy risk-free by signing up for our Demo Trading Account.