The Tesla Stock Split Experiment

Abstract

On August 11, 2019 at 16:59 EDT, Tesla (TSLA) announced a 5-for-1 stock split. The trading in the after market and during the subsequent two days amounts to a unique financial economic experiment. Although stock splits have no fundamental impact on value, Tesla’s stock price rose 17.94% in the two days following the split – adding almost $50 billion in market value. This paper examines that price increase in detail and concludes there is no rational explanation for the size of the run-up following Tesla’s stock split announcement.

 

Introduction

Empirical financial economists are stuck between a rock and a hard place. To begin, we cannot do controlled experiments. We are not in a position to alter corporate policies or change market trading rules. As a result, virtually all our empirical work is based on statistical analysis of market data. Unfortunately, reliance on ex-post data opens the door to problems associated with measurement error, data mining, and nonstationarity. Even in those cases where highly significant statistical relations are found it can be hard to separate causation from correlation. In addition, there is a related problem that occurs when there are large short-term movements in a company’s stock price. The question that arises is whether the change in price, which can be measured with precision, was caused by a corresponding change in fundamental value or was the result of behavioral effects that led price and value to diverge. Robert Shiller was awarded the Nobel Prize in large part for his work which suggested that price typically moves more than value, but work in this vein remains controversial because of the difficulty of measuring changes in value.

There are, however, unique circumstances in which events conspire to produce something akin to a controlled experiment. Such instances are worth studying in their own right, even if it is difficult to draw broad conclusions from individual events. The particular “experiment” analyzed here was made possible by Elon Musk. On August 11, after the market close, Tesla announced that the company would be splitting its stock 5-for-1. As will become clear shortly, the announcement was unanticipated. The fact that the announcement was a split is particularly fortuitous. Since the path breaking work of Fama, Fisher, Jensen and Roll (1969), which introduced the event study technology, it has been known that stock splits, in and of themselves, convey no fundamental economic information and, thereby, should have no impact on value. Splitting a stock simply changes the unit of account. Share numbers rise and all per share magnitudes fall by the same fraction. It is possible, of course, that the split serves as some type of signal, more on that below, but the change in the unit of account itself has no real economic effect and, therefore, should not impact a company’s market value. Consistent with the theory, FFJR found that although stock prices ran up prior to splits, residual returns following the split were essentially zero on average. Subsequent research such as Huang, Liano, and Pan (2009, 2015), among others, produced basically similar results.

          Tesla, however, proved to be an exception. As soon as Mr. Musk made the announcement the stock price jumped more than 6% in the after market. The following day, on the basis of no apparent news with respect to fundamentals, the stock price went on a wild ride before closing up 13.12%. But that was not enough, the next day, despite some oscillations, it ended up another 4.26%. Over the two days the total return was 17.94%. A small portion of this run-up can be attributed to the market. The Nasdaq index rose a total of 2.40% over the two days, although a portion of that rise was due to Tesla. What is particularly remarkable about the run-up associated with the stock split is that Tesla was a large market capitalization company at the outset. Prior to the split, the market capitalization of Tesla was $256 billion making it the sixteenth largest company in the United States by that measure. In the two-day run-up the market cap rose by $46 billion to $302 billion.[1] To provide perspective, the increase in Tesla’s valuation over the two days exceeded General Motor’s market capitalization of $39.4 billion. Of course, it is possible that the run-up was due to fundamental information released concurrently with the split, but as documented below that is not the case. All of this makes the Tesla run-up following the split announcement a story worth pursuing. In that respect, the next section analyzes the run-up in detail. The following section examines whether news other than the split can explain the run-up. It also analyzes other possible explanations for the price increase. The final section discusses implications of the results and summarizes.

 

[1] Calculations are based on 186.36 million shares outstanding.

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