In most cases, stock splits don't really matter. Whether you slice your company's ownership up in 10 million shares or 100 million shares, the total market value stays the same. Each slice is just 10 times larger in one serving model than the other.
So when I see one of my favorite companies announcing and executing a stock split, I tend to shrug and move on. I have podcasts to consume and a poor guitar to abuse, after all.
But there are times when a stock split makes me sit up and take notice. Amazon (AMZN 0.78%) sparked that response in March last year, when it scheduled a 20-for-1 stock split for early June. To me, this one was actually a big deal -- but perhaps not for the reasons Amazon's management intended.
Stock splits are market psychology 101
Far smarter investors than me have described the stock market as an exercise in mass psychology. For example, Nobel-winning economist Robert Schiller used that exact term in 2017 to describe the overheated cryptocurrency bubble that year, also extending it to similar stock market booms.
And stock splits play into the same group mentality. A much-cited research study by Kadapakkam et. al, titled "Stock Splits, Broker Promotion, and Decimalization," suggests that stockbrokers rely on the lower share prices after a stock split to inspire heavy trading by small investors. In effect: "Everybody else is jumping on this trade, so why shouldn't I?"
Those trading volume bumps and share prices increases tend to be short lived, as investors move on to the next morsel of seemingly game-changing news. Amazon's split was no different. Share prices rose by roughly 10% in the two weeks before the split, accompanied by slightly higher trading volume. Both effects were gone five market days later. It was business as usual, with no surprises.
NASDAQ: AMZN
Key Data Points
A cosmetic change or a vote of confidence?
However, short-term market action can be deceiving.
When Amazon unveiled its first stock split since 1999, it was more than a cosmetic change. The shares were priced at nearly $2,800 at the time, putting them out of reach for some investors with limited budgets.
It's true that most investors can buy fractional shares nowadays, allowing one-twentieth of an Amazon share before the split to be functionally the same as a full share after the accounting move, but a handful of popular stock exchanges still don't offer it. Others may charge a fee for taking advantage of fractional shares.
Moreover, most exchanges with this handy feature don't promote it much. It's up to us investors to figure out that we don't always have to splurge for a full share.
So this stock split was actually helpful to investors who don't trade fractional shares for one reason or another. Making it easier to buy and sell your stock Is a huge vote of confidence in the company's future. It's huge because Amazon's board of directors, led by founder and executive chairman Jeff Bezos, had refused to lower the gates of entry into stock ownership for so long. The company split its shares three times in 1998 and 1999 amid the skyrocketing prices of the dot-com bubble, followed by a drastic plunge when that bubble popped.
I understand if that experience left a bad taste in the mouth of Amazon's accounting team and leadership -- nobody likes to made ambitiously bullish bets and then run into a brick wall. On the same note, abandoning that cautious policy after two decades and change showed tons of confidence in the next few years.
A long-term perspective amid economic challenges
Of course, the stock market had just started to worry about rising inflation and the interest rate moves designed to combat that issue. When the actual split took place in June, the S&P 500 was down by 13.5% year to date, and Amazon's stock had dropped 25% -- including the temporary 10% boost that the split itself may have triggered.
Did Amazon's leaders miss the inflation-powered signs of an upcoming bear market, maybe even a recession? Maybe so, but that doesn't change the value I see in a bullish analysis of long-term trends.
The economy runs in cycles, and you know that dance -- upswing, followed by downswing, circle back, and do-si-do. The government's efforts to control the process sometimes amplify the size of the next round, with ripple effects for years to come. The economic mess we're in now can be traced back to the early days of COVID-19 in many ways, and other issues we're still dealing with started even earlier.
The inflation crisis is just one more ripple. In the long run, everything continues to grow. The economy will get back on its feet, inspiring Amazon's customers to place more orders, which in turn will drive the stock price up again. Investing is a marathon, not a sprint, and Amazon's stock split is concrete evidence that the company is taking a long-term view even in the face of current and upcoming challenges.
That's a good and healthy management attitude, in my book.
