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Stock Splits Can Be Very Profitable

Years ago (pre bubble days) a stock split was still something special. Although the idea of giving someone twice as much stock for half the price is statistically insignificant, the fact is an entire psychology sprung up around them. In fact, a book called the the Anatomy of a stocks split was written, and many sites sprang up focusing on stock splits and how to play them.

So what is it about stock splits that makes them work as winning plays? Well, several things, although if the bear market taught you anything it taught you that when the bear is in charge, even splits don't work well. But in a flat to rising market, I think it all boils down to one thing, "price". As a split approaches, people buy into the stock because they are going to get twice as much of it, and after the split takes place, give it a few weeks and everyone simply considers the stock to be "cheap" again.

Look at MMM. They did a 2 for 1 split on September 30, 2003. At the time the stock was 140 dollars per share.Well that certainly seems pretty expensive, and it was struggling a bit at that price. So, when it did a 2 for 1, it became a 70 dollar stock. Hey, not so bad! So, all the people that wanted MMM at 140 but couldn't afford it or justify it, jumped on it at 70. Well, now it's 84. That would be 168 pre split.

The fact is that MMM has split 3 times in the past, and all of them were two for 1 splits. If they hadn't done them, MMM would be 700 dollars per share! So, investors look back over history and see that most of the time a good company will reach a "high" split and reach that high again. Some can do it over and over. Look at MSFT. It's split 2 for 1, 9 times, and except for this last one, has run up to it's "highs" within a couple years of doing it's split. This is how so many secretaries at MSFT have become millionaires.

Let's suppose you worked at MSFT back in 96, and they gave you just 1000 shares as a bonus. then the stock hit 50 and they did a 2 for 1. Now you had 2000 shares but at 25 per share. A year and a half later, they had run back up and they split again, giving you 4000 shares, once again at 25. Another year, another run up and "boom" they split again. Now you have 8,000 shares. but notice, we are only on split 3! then as the years went on, your 8000 became 16,000 , then 32000, then 64,000, then 128,000, then 256,000, and finally 512,000 shares. Even at today's "low" price, you are a multi millionaire.

The multiplier effect is what causes stock split plays to be profitable. Then of course there is the trading aspect, as traders learned that stocks tend to rise into a split, so they hopped on board and made it even more self fulfilling. We have advocated several ways to playing stock splits, first, the "pre announcement" where we'd try and find who might be announcing a split, then the "announcement pop" where we'd play the announcement. Then it was the "pre split run" where we'd try and get in for the split run up. Then we'd sell the actual split, and come back in for a post split run. Was it profitable? In the bubble days of 98 -2000, there was nothing stronger on earth than a stock split. Nortel split and ran up to it's highs and split again 2 more times in 18 months. It was insane and it was unbelievable, but it happened.

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