Apple, the Dow, and a Stock Split – Only One of These Should be Relevant


Chief Strategist at Interactive Brokers

Two of the three items mentioned in the above headline should be irrelevant, but for historical reasons they are not.  It’s definitely not Apple, but its actions have thrust the other two topics to the fore.

It is clear that Apple (AAPL) remains crucially relevant for markets, investors, and millions of customers.  A company with over $40 billion in yearly profits and over 100,000 employees is undoubtedly important. With a market capitalization of over $1.8 trillion, AAPL has the highest weight in major indices like the S&P 500 (SPX) and NASDAQ 100 (NDX).  At index weights of nearly 6.5% of SPX and 13% of NDX, any movement in AAPL has an outsize effect on bellwether indices.  Its stock price has offered outsize returns to long and short-term holders, rising about 130% in one year’s time.  During that time period, rolling four quarter earnings have increased 12%.  The market’s rise has been propelled by the outsized performance and P/E multiple expansion of AAPL and other market leaders like Microsoft (MSFT), Amazon (AMZN), Alphabet (GOOG, GOOGL) and Facebook (FB), and broad indices will remain inextricably tied to these mega-cap companies for as long as their market capitalizations remain dominant. 

Apple also has the highest weight in another important index, of course, and that is the Dow Jones Industrial Index (INDU).  That index is price weighted, as opposed to market capitalization weighted, and the $400+ price of AAPL gives it the highest weight in INDU as well.  I have opined on various occasions that while INDU is the most commonly reported market measure in many media outlets, it is a relic that owes its status only to its historical significance.  It was the first reasonably accurate measure of stock market performance, though it was better suited to an era when calculations were done with a pencil and paper.  It was relatively easy to sum a handful of stock prices and divide them by 20 (the original number of stocks in INDU).  The 30 components of INDU are not nearly as representative of the US economy as SPX, and only a relative pittance of investment dollars are indexed to INDU in comparison to SPX. 

When AAPL splits 4:1, its stock price will drop to ¼ of its prior amount, though its market capitalization will be unchanged.  As a result, Apple’s weight in SPX and NDX will remain unchanged – but its weight in INDU will be roughly ¼ what it was only a day earlier.  AAPL will immediately drop from the highest index weight to somewhere in the middle of the pack.  The ability of INDU to track the movement of the stock market will change meaningfully simply because the board of AAPL decided to issue 3 new shares to every existing holder.  The susceptibility of INDU to relatively arbitrary moves in stock prices helps explain why so little money is indexed to INDU compared to its market capitalization weighted counterparts.

While we see that INDU is unduly susceptible to stock splits, it is also time to question the relevance of stock splits in the current investment environment.  At one time, they were viewed as making high-priced stocks more accessible to investors.  I recently shared a link to the commission schedule of a discount broker from decades ago (see here).  It was less expensive to buy lower priced shares than higher priced shares.  Also, buying odd-lots of less than 100 shares was cumbersome and often discouraged.  An investor with $5,000 in available funds would have valid reasons to prefer buying 100 shares of a $50 stock than 50 shares of a $100 stock.  Yet we now invest in an era when there is little if any distinction between round and odd lots, since stock orders of all sizes are routinely sliced into increments as small as 1 share.  Furthermore, fractional shares are available through a wide range of brokerage firms (including IBKR), making stocks of all prices available to even the smallest investors.

I don’t question that the board of AAPL has valid reasons for splitting its stock.  It certainly won’t make the stock less investable, and could help it.  It may reduce the amount of fractional share grants that the company will issue to employees, which could reduce costs.  But it is likely to provide anything other than a psychological boost to a wide range of investors.

Both the Dow Jones Industrial Average and stock splits have long and meaningful places in investment history.  One must now consider the degree to whether either or both are simply charming anachronisms in the current investment landscape.

Read Steve’s Referenced Post Here:

Can We Please, Finally, Retire the Dow (2nd try)?

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