3 reasons why the share price doesn’t matter
One of the most common factors to consider when looking for stocks is price. But it’s easy to get hooked on the importance of the price.
Common sense says that the higher a company’s stock price, the better the investment. After all, a rise in the share price must mean that the business is growing, and therefore worth more, right?
In reality, it’s a bit more complicated than that. Price is definitely a factor to keep in mind, but it doesn’t matter as much as you might think. Here’s why.
1. Price is not synonymous with value
It might sound counterintuitive, but a stock with a higher price tag isn’t necessarily more valuable than its cheaper counterparts.
Consider Amazon (NASDAQ: AMZN) and Apple (NASDAQ: AAPL), for example. At the time of this writing, Amazon’s share price is around $ 3,330 per share. Apple, on the other hand, costs around $ 127.
Based on the share price alone, it may appear that Amazon is much more valuable than Apple. But Amazon has a market cap of around $ 1.65 trillion, while Apple has a market cap of around $ 2,116 trillion. Market capitalization is the number of shares outstanding multiplied by the share price, and it’s one of the best representations of a company’s value. According to this metric, Apple is worth more than Amazon, despite its significantly lower price.
2. The share price fluctuates day to day
Stock prices are constantly changing and these daily fluctuations are not necessarily linked to the performance of the company. If there is big news about a particular company, it could cause its stock price to rise or fall more dramatically. But that doesn’t necessarily change the long-term trajectory of the business.
Consider Amazon again. Looking at its share price over the past six months, it feels like a roller coaster.
If you only look at the daily data, any stock will look volatile. But it is important to base your investment decisions on the likely performance of a stock over the long term, not the short term. Looking at Amazon’s performance over the past five years, the stock price seems less volatile.
No matter where you choose to invest, remember that the stock price will fluctuate (sometimes dramatically) in the short term. That shouldn’t stop you from investing, however.
Rather than dwelling on short-term stock price changes, focus on the underlying fundamentals of the company to determine if it is likely to continue to grow over time.
3. The share price can be manipulated
Although the share price regularly changes on its own, it can also be manipulated. Actions themselves have proven this in important ways, because actions like GameStop and AMC Entertainment Holdings saw their prices explode overnight.
With stocks even, investors artificially inflate the price of the stock by encouraging many people to buy it. Then, once the price has gone up, these investors sell their shares to make a quick buck. These increases in stock prices have nothing to do with the fundamentals of the company. In fact, GameStop and AMC are struggling companies, and their explosive returns don’t necessarily make them solid investments.
Even stocks can be a shady investing practice, but there are also legitimate reasons why companies can manipulate their stock prices. Take for example stock splits. A company can issue a stock split to increase the number of shares outstanding and lower the stock price, making the stock more affordable and attractive to investors.
For example, if a company issues a 2 to 1 split, it would double the number of shares outstanding and cut the share price in half. Because the market capitalization has not changed, the business is not worth more or less after a stock split. But the price of its action is lower.
Stock price is a factor to consider when investing, but there are other more important metrics. Rather than focusing too much on price, you are better off researching the fundamentals of a company and investing in solid stocks with solid growth potential.
This article represents the opinion of the author, who may disagree with the âofficialâ recommendation position of a premium Motley Fool consulting service. We are heterogeneous! Challenging an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.