As you invest, you’ll quickly find that there’s always something new to learn. Moreover, every time you learn something new, you have a new tool in your toolbox to help generate profits in the market.
One of the most important of these tools to consider is a stock float. The float of a stock tells you whether or not you can expect to see volatility, what the ownership structure of the company is, and how much say you will have as a shareholder when votes come to the table.
What Is a Stock Float?
In the stock market, the term float refers to the number of shares of a publicly traded company that are available for trading in the open market. The float of a stock is figured out by subtracting the number of restricted shares from the total number of outstanding shares of a stock.
For example, say company ABC has 100 million outstanding shares.
It paid 10 million shares to its management team and other key employees as bonuses and compensation. It has another 2 million restricted shares that were given to service providers as payment. Finally, the founder and CEO of the company owns 30 million shares.
In this example, the stock float would come to a total of 58 million shares, meaning that 58 million shares are available to be traded by the general public.
An easy way to remember the definition of a stock float is to think about the number of shares that are floating around, waiting to be bought or sold.
Understanding Types of Shares
Pay attention to share structure, as a float can change. Here are a few key share-structure terms to understand that affect the float of a stock:
- Outstanding Shares. Outstanding shares represent the total number of all shares, including restricted shares, that have been issued by the company. Essentially, if you own 100% of the outstanding shares of a publicly traded company, you own 100% of the company.
- Restricted Shares. Restricted shares are a type of shares that are provided to insiders, either through a purchase or as an incentive. These shares generally have time restrictions as to when they can be sold, which gives rise to the name “restricted stock.”
- Authorized Shares. Authorized shares represent the total number of shares of stock that a publicly traded company can issue. The number of authorized shares is generally set in place prior to the company’s initial public offering (IPO) and can only be changed via shareholder vote. Companies are not required to issue all authorized shares. Moreover, any time a company seeks to increase its number of authorized shares, it’s a cause for concern, because the only reason to increase this number is to raise money through a dilutive offering of common stock.
All of these factors are important. Outstanding and restricted shares are key to calculating the float of a stock. Keeping tabs on the number of authorized shares a company has available to issue gives you an idea of whether or not there is room for dilution.
Furthermore, it’s important to keep the number of authorized shares in mind because newly issued shares will ultimately change the float of a stock, and therefore the trading and investing dynamics associated with it.
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What a Stock Float Tells You
There are three classifications for stocks based on the float: low-float, medium-float, and high-float stocks. Each of these classifications tells you something important about the stock.
Low-Float Stocks: Stocks With Less Than 10-Million-Share Floats
Low-float stocks, or stocks with less than 10-million-share floats, are highly volatile. Because there is a small number of overall shares to trade, every trade has a larger impact on the value of the stock.
This can lead to wide swings in price and generally large bid/ask spreads — the difference between the price at which a share of stock can be purchased and the price at which a share can be sold.
Due to the dramatic volatility involved in investing in low-float companies, there’s a higher level of risk when investing in these stocks.
Moreover, it’s important to look into the number of outstanding shares of stocks with low floats to get a better understanding of these companies’ share structure.
If a float is low because the majority of shares are owned by insiders, that means the general investing public has little say when it comes to matters that require votes.
So, if you’re looking to own a piece of a company that you can have a meaningful say in, low-float stocks aren’t best for you.
Medium-Float Stocks: Stocks With Between 10- and 15-Million-Share Floats
Medium-float stocks are stocks that currently have between 10 million and 15 million shares available for trading. At this level, share structure and voting power may still be a concern, but it’s less likely.
In terms of volatility, medium-float stocks can still take you on a pretty wild ride. Although they won’t be quite as volatile as low-float stocks, they are known for wide movements in one direction or another and still come with an added level of risk when compared to high-float stocks.
Nonetheless, medium-float stocks are far more predictable than low-float stocks, while still offering the potential to take advantage of dramatic runs in value, making them a favorite among day traders.
High-Float Stocks: Stocks With More Than 15-Million-Share Floats
Finally, high-float stocks are stocks that have more than 15 million shares within their float. High-float stocks tend to be larger companies.
The higher the float, the lower the volatility will be because each share purchase will represent a smaller percentage of the overall company.
Companies with higher stock floats may also have lower levels of insider ownership. This in and of itself can be a pro and a con.
While a low level of insider ownership means that the general shareholder has more say in how the company is run, it also could mean that insiders in the company haven’t bought in because they don’t expect to see meaningful growth ahead.
So, even if a high float is there, stable gains may not be the outcome.
And, not all high-float stocks have low levels of insider ownership. Large companies that trade with large market capitalizations generally have a larger number of shares and just about always fall into the high-float stock category, regardless of insider ownership levels.
Larger, established companies with decent levels of insider ownership and high floats that make their movements in the market more stable are strong picks for the risk-averse investor.
High-Float Stock Pros & Cons
Some of the best-known names on the stock market are high-float stocks. Amazon and Walmart both have incredibly high floats. However, not all high-float stocks are created equal, and investing in them comes with pros and cons.
High-Float Stock Pros
There are several benefits to investing in stocks with high floats. Some of the most important of these benefits include:
- A History. Most stocks in the high-float category are large companies that have a high number of shares in order to make the per-share value of their stock affordable for the average investor. Many of these companies are massive with a long history of dominance in their respective markets. This strong history of success is a great indicator of future success.
- Stability. Investors looking for stable growth without a high risk of significant single-session losses love high-float stocks, as these tend to be slow, steady movers.
- A Say. Some investors like investing in stocks that make them feel as though their opinion matters. It is extremely rare that insiders will own more than 50% of a high-float stock, meaning that important shareholder votes at companies with high-float stocks usually follow along the lines of what the investing community wants to see, as they hold the majority of the company’s shares.
High-Float Stock Cons
There are plenty of benefits to investing in high-float stocks. However, there is no reward without risk in the stock market. There are a few drawbacks to investing in high-float stocks that you should consider before diving in.
- Less Opportunity for Momentum. Due to the nature of high-float stocks, volatility isn’t often seen. This means there’s less potential for significant short-term runs in value, as are often seen with low-float stocks.
- Low Insider Ownership. Unless you’re looking at a well-established blue-chip stock, a low level of insider ownership should appear as a big red flag. If insiders don’t believe enough in the company to put their own skin in the game, why should you? So, when investing in high-float stocks, it’s important to look for well-established companies, rather than companies that the insiders just don’t believe in enough to invest in. Unfortunately, it can be difficult for beginner investors to make that distinction.
- Your Vote Isn’t as Valued as You Think. Some investors like high-float stocks because the lower levels of insider ownership mean the investing community has a say in what happens with the company. However, on a singular level, your vote may not be as valuable as you think. That’s especially the case when your vote would go against the grain. Remember, a high-float stock has at least 15 million shares available for trading. To have any real voting power as a singular voter, you would have to own a significant portion of that multimillion-share float.
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Low-Float Stock Pros & Cons
High-float stocks are great in their own right, but they aren’t the be-all and end-all. Low-float stocks can certainly entice a large portion of investors as well. Here are some pros and cons to consider in low-float stocks:
As is the case with high-float stocks, there are plenty of benefits to investing in low-float stocks. Some of the most important include:
- Momentum Opportunities. Due to the highly volatile nature of low-float stocks, it’s common to see dramatic short-term runs in value in these stocks. So, if you’re comfortable with higher levels of risk and looking for large short-term opportunities, low-float stocks are a great place to look.
- High Levels of Insider Ownership. Although this isn’t always the case, sometimes low-float stocks have low floats because insiders believe so much in the future of the company that they have purchased a large percentage of outstanding shares. When insiders have a high level of skin in the game, it’s a strong indication that the company is moving in the right direction.
- Any Catalyst Can Trigger High Demand. By nature, low-float stocks have a limited supply of shares available. As a result, any news — even the smallest announcement — has the potential to trigger an increase in demand, leading to a dramatic increase in the stock’s price.
Although there are plenty of reasons to consider low-float stocks for your portfolio, the grass isn’t always green on this side of the fence. There are a few drawbacks to consider before diving into the low-float-stock swimming pool.
- Volatility Is Dangerous. The high levels of volatility in low-float stocks can lead to dramatic gains. However, losses have the potential to be just as significant. So, low-float stocks are not appropriate investment vehicles for the risk-averse investor.
- Lesser-Known Companies. Low-float stocks tend to represent lesser-known companies. These companies are far from household names, and while they may have built an exciting new business, often these businesses present more questions than answers. When investing in low-float stocks, it’s important to do extra research to make sure that you’re getting involved in a company with solid prospects for the future.
- Liquidity Risk. Sometimes, low-float stocks can be in high demand, and the value of the stock will fly. On the other hand, these lesser-known stocks may not have much demand at all, making them difficult to sell once you own them.
Who Should Consider High-Float & Low-Float Stocks
Determining whether you should invest in low-float, high-float, or medium-float stocks is a simple process. Consider the following when making your decision.
What Is Your Appetite for Risk?
When investing, it’s important to know your appetite for risk. Investing isn’t supposed to be scary and shouldn’t make you uneasy. If it does, you’re venturing far beyond your comfort level in terms of risk, which will lead to making emotion-driven and loss-generating decisions.
Determine your appetite for risk. If you believe that you have a high risk appetite, investing larger percentages of your portfolio in low-float stocks is the way to go. If you have a moderate or low appetite for risk, you’ll want to invest in medium- to high-float stocks.
Are You Looking for Momentum or Stable Growth?
High-float stocks are best known for the stable movement that is seen in their price. This stability helps to reduce risk and produce long-term gains.
Conversely, low-float stocks are known for high-momentum moves in the market. This increases risk but also increases the potential for strong short-term returns.
So, if you’re looking to invest in stocks that will grow over time, high-float stocks are best for you. However, if you want an investment that has the potential to create strong short-term profits, low-float stocks are where you should be.
Think About a Mix Between the Two
A properly balanced portfolio doesn’t focus on a single stock, type of stock, or sector. Instead, a well-diversified portfolio should be considered to maximize potential gains while mitigating risk.
As a result, it’s best to consider mixing high- and low-float stocks. If you are looking for a low-risk portfolio, consider investing 5% or so of your investing dollars into the higher-risk, low-float stocks in an attempt to add to your gains while keeping risk at bay.
On the other hand, if you’re looking for a high-risk portfolio that has the potential to generate tremendous gains, consider investing 65% of your stock allocation in your portfolio in low-float stocks to take advantage of the momentum they offer.
The other 35% of your stock allocation should be invested in high-float stocks to add some stability and protect you from risk.
Stock floats tell investors quite a bit. They are a gauge of potential risk, potential reward, and ownership structure, all of which are very important to investors.
Of course, the more you know about any investment you consider making, the better your chances are of generating the returns you’re looking for. So, it’s pertinent to pay attention to the float of any stock you’re interested in.
Always keep in mind that stock floats have an inverse relationship with risk: high-float stocks generally come with lower levels of risk while low-float stocks come with high levels of risk. Keeping this fact in mind will further help you to balance the risk vs. reward within your investment portfolio.