When faced with what to do with a limited amount of money to invest, many investors often fall into the trap of gravitating toward low priced stocks so that they can buy more shares. For example, say that someone has $1,000 to invest and they have to choose between 100 shares of a $10 stock or 10 shares of the $100 stock. The reality is that if both investments are essentially identical, it should not matter where the investor puts his or her money. A 10% increase in either investment would result in a $100 gain.
The reality, however, is that many investors ignore percentages altogether and focus instead on the amount of shares they can buy. Therefore, they choose the lower priced stock thinking that a $1 increase in that investment will result in a $100 gain while a $1 gain in the $100 investment would only result in a gain of $10. This may sound like an illogical approach to take, but you would be surprised at how many investors fall into the trap.
Now that we are on the subject of small versus low priced stocks, we looked to see how they have performed so far in 2012. To that end, we compared the average return so far in 2012 of S&P 500 stocks that finished 2011 with single digit share prices to S&P 500 stocks that had triple digit share prices to close out 2011.
In terms of single digit share priced stocks, it has been a relatively volatile year. While the trend has been higher, there have been some big swings. Back in mid-March, the basket was up nearly 25%. Since then, the basket has since seen a pretty sharp pullback and although it is still up 14.3%, it is well off its highs of the year. Triple digit stocks, on the other hand, have seen a much steadier ride. They are now outperforming their single-digit peers with a gain of 16.3% and much less volatility to boot.
With an increasing number of stocks trading in the triple digits, we are often asked why more companies are not announcing stock splits. While we realize that it is a small time frame to look at, with better returns and less volatility so far in 2012 why should they be in a rush?