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Financial Adviser | Fitting stock splits into decisions of a young investor

Published:Sunday | June 26, 2016 | 6:00 AM

QUESTION: I am a fourth-year medical student, and ever since a child, I was always observing the business reports on the television and thinking of ways to start an investment portfolio. I often read your investment advice in The Sunday Gleaner and I must say you have helped me to take the risk and step out into the world of investments. I recently purchased units in Sagicor Unit Trust and I have been seeing positive results.

My question to you is, what other investments would you advise a young person such as myself to venture into? I have seen where several companies intend to split their stock. Since the announcements, their prices have skyrocketed. Is this a good time to purchase shares of such companies even though the split will result in a price cut? Certainly, these prices will eventually see an increase. Will they not? Please shed some light on the feasibility of such.

- Oshane

 

FINANCIAL ADVISER: Not knowing what your situation is and what your objectives are, it is hardly practical to attempt to advise how you proceed with your investments. I can only mention some options and at the same time suggest that you see a professional adviser who can help you build a suitable portfolio.

Having said that though, there are many available unit trust options, so the fact that you have already entered that segment of the market does not mean that you cannot explore other options there. What you do next would largely depend on your objectives and goals.

If you have invested in funds which are invested in the Jamaican market and you want to hedge against the decline of the Jamaican dollar, for example, you could consider funds that have a foreign currency component. You could go for bond funds if you want to have an element of your portfolio that is less exposed to risk.

 

Time to do research

 

It is interesting that you have mentioned stocks. Perhaps you are becoming comfortable with that element of the investment landscape. That is an area you could explore, but it usually requires time to do research.

Although this is one type of investment that you would ideally focus on for the long term, it is usually prudent to monitor how it is doing. Do you have the time and expertise to do justice to yourself in this area of investments? Only you can answer, but note that this can be a rewarding but risky area of investments.

A stock split is the division of a company's outstanding shares into a larger number of ordinary shares. A four for one split by a company with 1,000,000 common shares outstanding would result in 4,000,000 common shares outstanding after the split. Each holder of 100 common shares before the split would receive 300 additional ordinary shares. Each ordinary shareholder's proportionate interest in the common would remain unchanged.

Stock prices tend to advance when stock splits are announced and sometimes to unreasonable levels. Investors tend to believe that they have much to gain by buying before the split becomes effective. The split does not make the stock more valuable, but there is often that illusion where some investors are concerned.

The stock split makes the stock more liquid in that it increases the amount of stock units available to the public and at a more affordable nominal price. This tends to cause the demand for the stock to increase and may cause the price to increase.

It should not be surprising though if the price eventually falls, as the market often makes these adjustments when prices move below or above what may be seen as realistic levels.

A stock split does not change how a stock is valued. The adjustment in the number of shares also makes it necessary to make other adjustments such earnings per stock unit, dividends paid per unit of stock, and the par value of the stock if it has a par value. In the case of a 4:1 split, for example, each share having a par value of $1.00 before the split would effectively be converted to four shares with a par value of $0.25 each.

Stock splits do not come very often and are generally made for stocks that have quite a high price. Buy value if you are investing in stocks and do not wait for announcements of stock splits to make your decision.

- Oran A. Hall, principal author of 'The Handbook of Personal Financial Planning', offers personal financial planning advice and counsel.

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