FAQ: Is now the time to buy Apple stock since it split and is cheap?
We are getting this one a lot lately. Apple and Tesla are both darlings of the tech world recently and both announced stock splits at the same time. There seem to be two fundamental problems with this question, first is that a split adds any value to a stock or company, and second that the company is cheap because the price is lower.
Problem #1 – A stock split is nothing more than a shake-up of the numbers that dictate a stock. Each company that is traded publicly has a certain number of shares outstanding, called the float. The other relevant metric is the price of each one of these shares. If I own ABC Corp, a cloud-based web services company, they may issue 1 million shares of stock when they incorporate. This means if you own one share, you will own 1/1 millionth of the company. As we learned in elementary school, slicing a pizza pie into more slices does not increase the size of the pie, it merely reduces the size of each slice. If your share of ABC Corp is worth $10, the entire company is worth $10 million. If the company grows and the stock increases in price to $20, the company is now worth $20 million. The Board of Directors of ABC decides a stock split is in order and offers a 2-for-1 split (I will receive 2 shares for each one I own), thus the shares outstanding doubles while the price is cut in half. Again, each slice of pizza is cut in half, but the pie size remains the same. There is no value created from a split. The shares may become cheaper for the average investor to afford, but in a world of fractional share purchases and 401k’s, I don’t think this advantage provides any material value.
Problem #2 – The price of Apple stock may be lower than it was before the split, however, as demonstrated above its value is unchanged. In the case of stocks, value is measured as future earnings per share. Obviously, the idea of measuring anything related to the future is what makes markets. Some people think the earnings will grow at a very quick rate and others think they will grow slowly…or not at all. In the case of Apple, the stock is priced at an extremely unreasonable growth rate based on the last 5 years. Apple is trading at essentially double the market as a whole on an earnings basis. However, Apple has grown its revenue less than 3% per year on average for the last 5 years. This is far from the growth rates seen by other tech companies such as Google, Amazon, or even Tesla. In fact, this growth rate is slightly less than the average growth rate of the entire S&P 500. The iPhone, which has actually hardly grown at all in the last 3 years is 50% of Apple’s revenue and unless they have something up their sleeve that will change the world in a market that is massive, such as energy, transportation, or health care, it is unlikely that the current valuation is justified.
Sure, as long as there are speculators, the stock may go higher. Nobody can predict the short-term moves of any one investment. Rampant speculation could push the valuation of Apple significantly higher from here. However, speculating is never a good long-term investment strategy. Stay away from Apple until it is unloved by the majority of investors like it was in 2013, and you may be able to buy it at a bargain. Or better yet, take our advice and avoid individual stocks all together and stick with a diversified portfolio of low-cost index funds.