Understanding Stock Float andIts Impact on Stock Price

Stock float is one of the most important metrics that caninfluence the price of a security. While it can be a confusingterm to understand as a beginning trader, it is worth theeffort to know. After all, it can mean the difference betweenbig gains and big losses.

Why Stock Float Is ImportantThe more metrics you have to evaluate a security beforetrading it, the better. As a rule of thumb, anyway.

Perhaps you won’t be too concerned with a dividend if you’reonly looking to day trade a specific stock. You won’t own thestock long enough for the dividend to matter.

But one metric that can dramatically affect a stock’s price

movement and volatility, is the float.

Therein lies the importance of this numerical data.

The Role of InsidersOf the number of shares that are tradable for any givensecurity, those shares are either freely tradeable on themarket or insider-owned shares that are locked up. That is,unless the insiders decide to sell more shares, which isanother subject in itself.

For the most part, inside shares are owned by the employees ofthe company they work for. The insider owned shares are noteasily tradeable as they come with restrictions. For thatreason, the market at large doesn’t bother much about theinsider owned shares.

On the other hand, free floating shares are owned and tradedby general investors. Investors like you, perhaps.

InstitutionsIn many cases, institutions also own a majority of thesepublicly available shares. These institution-owned stocks aretypically held for a long time. Examples of institutionsinclude pension funds or hedge funds.

Because most institutional firms are not actively tradingtheir portfolio every day, this leaves only a remainingportion of the overall shares of a company that are readilytradable.

What Is A Stock Float?The float of a security measures the total amount of sharesthat can freely change hands. In many ways, it depicts theliquidity of the market for certain companies.

The more number of shares there are to change hands, thegreater the liquidity.

Calculating Stock FloatTo better understand “floating stock,” let’s illustrate thiswith an example.

A company ABC Inc. has 100,000 shares outstanding.

Of the shares outstanding, 5000 are held by its employees,40,000 shares are held by institutions. The remaining sharesare held by regular investors.

From this, the stock float is 55,000. This is the sum of thetotal outstanding shares minus the shares held by insiders andinstitutions.

As you can see, while the outstanding shares may be as high as

95,000 for this particular hypothetical company, the actualshares available at any given time, may be much lower.

Float ImpactThe impact this has on stock prices and volatility can bedramatic. After all, it is supply and demand that dictate theprices of stocks.

To that end, if more and more institutions gobble up theoustanding shares of a company, it takes less and less demandfor the price to rocket higher.

Scarcity of shares, as it were.

This is exactly what happens during the early period of acompany’s publicly traded life.

Low Float StocksA low float stock as the name suggests indicates that thenumber of shares outstanding are low. For such stocks, thedaily and average volume tends to be low. The low volumes ofsuch stocks lead to volatility and as a result, wide bid andask prices.

Before the company dilutes its value by throwing more sharesinto the market, the lower float in the beginning can causeits price to skyrocket as long as demand is there.

For such low float stocks, a fundamental driven rally createsdemand. In other words, investors are stumbling overthemselves to buy shares when they are scarce, driving theprice higher in dramatic fashion.

Over The Counter StocksThere is a myth that low float stocks are mostly stocks on thepink sheet or OTCBB market listings.

However, this is not the case. In some cases you can find some

micro-cap stocks with listings on the main exchanges such asthe NASDAQ or the NYSE. A stock can also be low float if forsome reason the float reduces relative to its usual average.

While the definition is a bit flexible, a stock is considereda low float stock which has fewer than 50-100 million intradable shares.

High Float StocksStocks with a high float tend to be more predictable and lessvolatile. For all intents and purposes, you can expect a stockto be a “high float stock” with anything above 100 millionavailable shares.

Due to the large number of shares in the float, the liquiditycan absorb any big moves. Therefore, while it is common to see30% or 40% or even 100% moves during a short amount of time ina low float stock, this is not often seen with high floatstocks.

The lack of scarcity means the value is often at “equilibrium”with the amount of shares being traded. Thus it takes moreeffort to move the price.

Larger companies such as AAPL or FB are examples of stockswith high float.

Comparison Between High and Low FloatsTo imagine the difference, lets take a stock with a float of18 million and 23.5 million outstanding shares, and compare itwith AAPL at 16.68 billion float and 16.75 billion sharesoutstanding.

EYES ran 1293% in just 4 trading days:

EYES small float stock exampleAAPL moves 18% in 38 trading days.

AAPL large float stock exampleClearly, there is a difference. For most investors or traders,it is usually a safe bet to trade stocks that have a higherfloat.

Trading low float stocks can be lucrative in the short run,but they typically come with the headaches of volatility and alack of secure fundamentals.

Market Cap vs. Free-Float MarketCapMarket capitalization, or market cap for short, is closelylinked to the free float of the stock.

When researching stocks, companies are usually categorizedbased on their market capitalization. Pull up any ticker onfinance.yahoo.com or any other site, and you’ll see Market Cap

at the top of the list, usually:

Yahoo! Finance Market Cap for AAPLThe important question for traders, is whether you should payattention to this.

Market cap is a measure of a company’s size: the total valueof a company’s outstanding shares of stocks. These outstandingshares include publicly traded shares as well as restrictedshares that are held by insiders.

How To Calculate Market CapitalizationTo calculate market capitalization you simply take the numberof a company’s shares that are outstanding. Multiply theshares outstanding by the current stock price in order to getthe market cap of the stock.

Let’s illustrate this with a simple example.

Say a company ABC Inc. has a total of 5 million sharesoutstanding. If this company is trading at a stock price of$10, you can get the market cap by multiplying the sharesoutstanding with the stock price.

In this example, we get $50 million as the marketcapitalization of the company.

Within market capitalization, there are certainclassifications. The different categories can vary dependingon who you ask. However, market capitalization is broadlyclassified into the following:

Now that we understand what market capitalization is, we cansee the difference.

Market cap is based on the total value of the company’sshares.

Float is the number of outstanding shares that are availablefor general trading by the public.

The Free Float Market Cap CalculationMethodThere is also another measure called the free float market capmethod of calculation. In the free float calculation method,the market cap excludes shares that are locked in. The sharesthat are locked in are inside shares that are not availablefor the general public.

Generally, the free float method of calculating the market cap

is widely used. Major indexes such as the Dow Jones IndustrialAverage and the S&P500 make use of the free float method.

Free float and market cap are important metrics for investors.When combined together, these two values show the totalavailable shares for the public to trade.

Stock Price Manipulation ThroughFloatOne common question among traders is whether one canmanipulate the price of a stock based on the float.

As mentioned above, a reduction in the float can almostimmediately raise the price of a security. This might seemcontrary to the notion of “higher the float, bigger theprice.”

This is not the case however. For example, when risk averseinvestors are on the short side of the stock, reducing thefloat can squeeze these investors out of the market.

This research paper of Float manipulation and stock pricesgives insight into how firms can expand or shrink the float.The researchers observe Japanese stock listings and the priceimpact of firms who reduce their float between 0.1% up to 100%for periods of one to three months.

The study concludes that the price of a stock tends to risewhen the float is reduced and conversely, the price of thestock falls when the float is increased.

The returns of the stock are also said to be cross-sectionallyrelated to the reduction in the float.

There is strong evidence that firms tend to issue equity orredeem their convertible debts when the float is low. Afterall, they want the highest price they can get for their

shares.

For this reason, firms have strong incentives for manipulatingthe stock price via its float.

Can A Company Increase or DecreaseIts Float?The answer to this is yes. Companies can raise or decreasetheir float in a handful of ways.

A company can raise the float by issuing new shares andit can reduce the float by announcing buy back of itsshares. Other examples include a company announcing astock split which could impact the float.Insider activity is also one of the factors influencingthe float. For example, insiders who usually own optionscan choose to exercise their option. This can alsoinfluence the float. However, for this to occur thereneeds to be a significant amount of option exercises.A company can also increase its float by deciding tosell some of the inside shares. This is done forlegitimate reasons such as raising cash, but there couldalso be ulterior motives.Typically, you can see the float changing when there aresome big changes. The trigger for the changes to thefloat can be due to the fundamental drivers such as newsevents or company reports and rumors.

Pros and Cons of Trading Low FloatStocksAs you might expect by now, there are pros and cons when itcomes to trading stocks with a low float. For a more in depthlook, be sure to check out our post on Float Rotation.

Let’s talk about the upside first!

ProsBecause low float stocks are volatile, there is a tremendousupside to the stock. Traders who can take a calculated risk onlow float stocks could end up with big returns.

Despite the inherent risks, traders can find an occasionalgood trade with tremendous upside potential in low floatstocks. One of the important things to look for is liquidity.

ConsIn many ways, trading low float stocks can be similar totrading penny stocks or micro-cap stocks.

Low float stocks can be very risky to hold because they canhave violent moves in either direction. With so few sharesavailable to trade, the impact on supply and demand can besignificant.

Low float stocks can be easy to manipulate with largeunexpected orders. This is something that investors need tobear in mind.

Stocks with low floats also tend to be volatile aroundfundamental news releases. These include any type of news thatis related to the industry or the sector in particular.Liquidity also increases around such events which can givegood opportunity for investors to exit the stock after makinga good trade.

Be sure to check for any filings with the SEC as thesecompanies tend to offer shares during price spikes.

How To Find Float DataThere are a number of services that offer float data. YahooFinance and Finviz are just a few of the popular ones. Popularcharting platforms may offer this as well, usually with asubscription to fundamental data.

Here is a snapshot of some of the fundamental data thatfinviz.com provides free of charge:

finviz.com fundamentals dataRegardless of the service you use, you may find somediscrepancies from one to the next.

ConclusionHopefully this helps fill in some gaps when it comes to stockfloat and the impact it may have on your trading.

As with any piece of information in the markets, it is alwayswise to study the context and historical examples. Here atTradingSim.com, we can help with this as we have the abilityto filter your search for simulated trades based on floatsize.

Hopefully you’ll take the time to develop your playbook anddecide whether you like the price action and risk of lowfloats or high float stocks.

Best of luck!