Tesla's Stock Split Plays to the 'Cheap Seats'

Shares in Tesla (TSLA, $1,374.39) don't really need more volatility, but that's what they got late Tuesday when the company announced a 5-for-1 stock split.

The electric vehicle maker said shareholders will receive four additional shares of Tesla stock for every share held after the close of trading on Aug. 28. Shares begin trading on a post-split basis starting Aug. 31.

Traditionally, the idea behind a stock split is to attract investors who might balk at a high share price. If the split were based on current pricing, Tesla would go from trading around $1,375, where it closed Aug. 11, to less than $300 a share.

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Why Did Tesla Split Its Stock?

Traditionally, a stock often gets a short-term bounce from a split announcement. But the gains aren't based on anything real. Nothing about the company's fundamentals or the stock's valuation has changed. It's like exchanging a $50 bill for 10 five-dollar bills.

But Nasdaq Chief Economist Phil Mackintosh notes that splits can have some longer-lasting benefits. Stock splits boost valuations, he contends, reduce company's capital costs and are more efficient to trade.

It seems unlikely that any of that is in the forefront of CEO Elon Musk's mind, however.

Musk has always maintained an outsized public image. His popularity is part of Tesla's marketing campaign, for both its cars and its shares. But a mass-market campaign is less effective when hawking stock if your would-be investors can't afford to jump in. Indeed, Tesla says the split will make "stock ownership more accessible to employees and investors."

With low- and no-cost trading apps like Robinhood bringing in millions of inexperienced and often uninformed traders, a more affordable TSLA stock could get a lot more interest from individual bettors.

The Cost of Splitting

The upside? A Tesla stock split could help support a higher valuation and higher share prices over time. It could even improve liquidity. But it will also likely lead to greater volatility. After all, it's easier to swing a $300 stock around wildly than a $1,500 stock.

That's part of why, while Apple (AAPL) recently energized this topic with its own stock split announced in July, stock splits in general have become less common. Larger, more established firms often prefer higher stock prices, as they can help keep shorter-term traders at bay and reduce volatility. Also, the advent of buying "fractional shares" for as low as $5 has further reduced the need for splits.

Consider that Tesla's stock already has been about 30% more volatile than the S&P 500 over the past five years, according to S&P Global Market Intelligence. Experienced investors know what to expect; big reversals are just part of the TSLA experience.

So if you're a newer investor that already owns some TSLA or plans on jumping in once shares become "cheap" again, just understand that volatility is dangerous because it increases the risk of buying high and selling low.

Let's hope all the new TSLA speculators are cool with that.