Sivy on Stocks: Frequently asked questions ,
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SIVY ON STOCKS from money.com
November 24, 2000

Frequently asked questions

Is it bullish if my stock is added to the S&P? Can stock splits and
buybacks increase total returns? What should I do with a spinoff?

By Michael Sivy

Q: Does being included in an index like the Dow or the S&P 500 increase a
stock's returns?

A: Just being in an index doesn't have much long-term effect. But stocks
typically receive a quick boost when they're added to a major index and go
down a little when they're kicked out. That's because many mutual fund
managers tie their performance to the Dow or the S&P 500, leading them to
hold many of the same stocks. As a result, money managers frequently load
up on new additions and dump stocks that are removed.

Q: Are stock splits good for shareholders?

A: Studies confirm that splits are good for share prices. According to one
study, stocks that split two-for-one outperform the market over the
following year by an average of four percentage points. That may not seem
logical, since a split has no fundamental impact on value: You simply get
more shares that are worth proportionately less.

But there are explanations for the outperformance. By reducing the share
price, splits make it easier for small investors to buy 100-share round
lots, boosting demand for the stock. In addition, no company wants to split
its stock and then watch it crash. So a company's top managers aren't
likely to authorize a split unless they are optimistic about the future. Of
course, management confidence means more for blue chips than for start-ups,
which may well disappoint even their own insiders.

Q: How beneficial are stock buybacks?

A: Companies that regularly buy back their own shares can outpace
comparable stocks by as much as three or four percentage points a year, on
average. In simplest terms, buybacks ensure that earnings -- and earning
increases -- are divided among a smaller number of shares. As long as the
cost of the buyback is less than the benefit of shrinking the number of
shares outstanding, earnings per share will rise.

As a result, buybacks are most effective when a company has at least 12
percent annual growth and a P/E below 20. Of course, those are the same
characteristics that conservative growth investors look for (see "Investing
for growth" [
http://www.money.com/money/depts/investing/sivy/archive/001009.html ]). So
you should first choose stocks based on fundamentals, and only count
buybacks as a bonus. Two cautions: Buybacks of high-priced stocks may not
help much. And not all companies that announce buybacks actually follow
through and repurchase shares.

Q: Should you hang on to a spinoff?

A: When a large corporation spins off some of its operations as an
independent firm, the new stock may fall in the first month or so. Reason:
Many existing shareholders who receive a spinoff dump it. Index funds, for
example, won't hold it if it's not in their index. And individual investors
may sell because the company doesn't fit their investing style. Following
the initial dip, however, spinoffs often go on to be stellar performers. In
fact, one study found that spinoffs outperform comparable stocks by as much
as 20 percentage points over the first 18 months.

If you own a stock in a company that is going to grant you shares in a
spinoff, it may be smart to wait at least a year before selling the new
shares. On the other hand, if you aren't a shareholder and the spinoff is a
stock you'd like to own, consider waiting until after the initial dip.


###

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