Any decent investor looking to make a serious profit needs to understand the basics of low float stocks, as well as the best way to use them to their full advantage.
Read on to learn all you need to know and get ready to take your investment game to the next level!
What Are Low Float Stocks?
In order to properly understand low float stocks, you need to first establish a strong understanding of what is meant by the term “floating stock”.
Floating stocks are the number of shares that are available to trade of a certain stock.
For example, if there are 100 million shares of Google, then floating stocks would be 100 million.
Low float stocks refer to stocks with a small number of shares.
Floating stock can be calculated as the difference between closely-held shares and restricted stock and the total number of outstanding shares held by a firm.
Shares held by major shareholders, insiders, and employees are called closely-held shares.
Restricted stock refers specifically to any insider shares that cannot trade for a certain period of time, such as the lock-up period that occurs following an initial public offer (IPO).
Stocks with a smaller float tend to be more volatile than stocks with a larger float – with fewer shares available, it might be harder to sell your shares.
This leads to larger spreads and often lower volumes.
Understanding Floating Stock
A particular company may have a large number of shares that are outstanding, but limited float.
As an example, let’s say that a company is in possession of 50 million outstanding shares.
Of these 50 million shares, certain large institutions own 35,000,000 shares, while insiders and management hold 5,000,000, and the employee stock option plan (ESOP) owns 2,000,000 shares.
Floating stock therefore counts for just 8 million shares (50m shares minus 42m shares), or 16 percent out of the total number of shares that are outstanding.
The amount of floating stock held by a company may increase or decrease over time. This can happen for a number of reasons.
An example of this would be a company selling additional shares to raise more money, which then increases the number of shares that are available for sale, and so the floating stock.
If restricted or closely held shares become available, then floating stock will also increase in value and availability.
On the flip side of things, if a company decides not to implement a share buy back, then the number of shares outstanding will increase.
If the floating shares as a percent of the outstanding stock go up, then the share price will go down.
Why Does Floating Stock Matter?
The float of a company is important because it offers an indication as to the number of actual shares that can be bought and traded by the general public and investors.
Low float usually acts as a hindrance to active trading.
A reduced trading activity can cause investors to be unable to enter or exit positions quickly in stocks with limited float.
Institutional investors will usually stay away from trading in companies with small float sizes because there are fewer shares available for them to buy and sell, which leads to limited liquidity bid-offer spreads.
Instead, institutional investors who buy large blocks of stock look for companies with a larger float, which means they’re less likely to be held by individual investors.
If they invest in stocks with a big float, the size of their purchases won’t affect the stock price as much.
Shares outstanding and float are two ways to measure the number of shares of a company.
Floating stock is calculated by taking the total number of shares outstanding and subtracting the number of shares held by insiders.
Shares held by insiders and investors are called closely-held shares. It shows how many shares are available on the market by the general population.
Shares outstanding refers to the total number of shares that are issued, including shares that are held by shareholders.
For example, Ford Motors has 500 million shares outstanding.
However, only 100 million are actually owned by regular, ordinary people.
That leaves 300 million shares held by different groups such as employees, the board of directors, and other types of ownership.
Float Vs. Floatless Companies
We’ll start with the most basic: float versus floatless companies.
The biggest difference between these two categories is that floatless companies tend to trade at higher prices than companies with lots of floats.
If you’re looking for low float companies, make sure that your analysis includes both float and floatless companies.
We’ll discuss the differences between the two later in this article.
High Float Vs. Low Float Companies
In addition to float and floatless companies, you should consider comparing high float companies versus low float companies.
High float stocks tend to have stronger shareholdings and lower float values.
There are ways to find low float stocks, but you need to understand when they occur.
Sometimes, a company doesn’t want to sell its shares because it wants to keep part of the business private. This type of situation tends to produce low float shares.
Another reason why companies sell off some of their shares is that it makes it easier to fund further growth after an initial stage of expansion.
Because of this, there’s less competition from smaller firms trying to purchase the stock. More competition makes it harder for a company to get good offers for their shares.
When a company sells more shares, the float per share becomes smaller. In fact, sometimes it goes below 1%. This may mean that the stock price gets more volatile.
Sometimes, instead of selling low-profile companies, managers prefer to cut down on expenses or pay special dividends to give themselves some breathing room.
They also use dividend payments to help reduce cash flow issues.
When we talk about “high” or “low” float, we usually mean something above or below 20% as a common range.
As long as you’re not buying too many shares in one company, it shouldn’t matter whether a stock has a low float or a high one.
You just need to know what kind of return you expect to see from each.
A low float will show you faster returns compared to a high float.
But if it’s important for you, then make sure you check out the company’s float before deciding which way to go.
Understanding Float Value
The next step would be to figure out how much float there is. So far, you’ve seen how to calculate float using the formula: (shares outstanding) – (shares held).
Now let’s look at some examples to make it clearer.
Example One: Let’s say that a company has 5m shares and 10m shares are publicly traded. The stock is trading for $70.50.
The shares held are 4.5m, so the public float is 0.95x 95% of all shares.
Why does this work? The shares that aren’t being sold have a fractional value. It can take anywhere from 3 days to over 2 years to settle.
Some people think that the average time it takes for a stock to settle is 30-60 days.
That means that the total number of shares outstanding is equal to the original number plus the number of shares that were traded during settlement time.
Therefore, this company represents a floating rate of 0.95.
Let’s do another example to illustrate a float with a lower amount.
Again, let’s say that a company has only 5m shares outstanding and 100m shares are publicly traded, with a current price of $40.50.
The stock is currently listed on NASDAQ and trades under the symbol XYZ. Shares held are 6m.
If you subtract shares held from shares outstanding, you find that the remaining float is 99%, since 96% of the shares are available for sale.
This shows a float of 9.95. We’ll now do another calculation using a different method. Let’s assume that the company has no shares held, but rather holds 12m shares.
When adding up all the numbers, the number of shares outstanding is 50m + 12m 62m. Then, we divide by 62m, and the result is a float of 97%.
Now the second calculation. A company has 5m shares outstanding. However, they hold 6m shares. The stocks traded are worth $45.50, so the company has a float of 94%.
As you can see, learning to manage float stocks is an important trading skill when it comes to navigating the stock market.
Learning how to find low float stocks is an important part of your investment journey, and could be the secret to helping you make some serious profit in no time.