Float
The total number of outstanding shares a company issues to be traded on the stock exchange.
What Is the Float?
Regarding stocks, a float refers to the total number of outstanding shares a company issues to be traded on the stock exchange.
It is crucial for the overall outlook of a company, especially in terms of its investors. Therefore, investors pay close attention to the number of floating stocks, as it can mean many different things for the company in the present and future.
Think of a company as a basket, with multiple eggs representing stocks within them, and the remaining eggs to buy can symbolize the floating number. This number is only calculated after subtracting any restricted stock from the equation.
By definition, restricted stock is any stock with some form of restriction preventing it from being sold. Restricted stock can be a good thing for a company, especially early on, as investors are lining up to get a piece of a company they see much potential growth in.
Some examples of why a stock would be restricted are, under certain conditions, to prevent premature selling, which could cause damage and increase volatility for a company.
Other reasons could be that there are stocks on the company's books, such as Treasury stocks, which are restricted. Nevertheless, this number is significant, especially for specific stocks' overall price and demand. Today, we will understand the float, how it works, and why it matters.
The same goes for an IPO or Initial Public Offering. This can be another reason a stock would be labeled as restricted, as there is a period following when a stock goes public that locks up certain stocks and restricts them from being traded.
Key Takeaways
- It is essential to grasp the idea of floating shares of a company, as they often can tell you a lot about the company itself. Especially if you are an investor, you will want to invest in companies with reliable statements behind them on their balance sheet and income statements.
- Knowing when companies are giving an IPO can be crucial to getting shares reasonably priced. Sometimes companies will restrict many of their shares and have a low rate, which makes the shares worth more, so be aware.
- Never buy company shares if you have any uncertainty about the company itself. Instead, it is better to get some information on the company in its earliest stages, such as its mission and what it plans to accomplish in the long term.
- Remember that it is always better to wait for dips in stock than to buy it early on and have yourself lose profits the longer you hold it.
How Does Float Work?
The idea is pretty simple. Suppose you owned a company that just went public with the name CompanyX. CompanyX has 100 million shares in total.
At the time, 30%, or 30 million shares, were tied up with insiders who first worked out a deal to get the restricted shares.
F# = Total Shares - Restricted Shares
F# = 100,000,000 - 30,000,000
F# = 70,000,000 shares
The float of CompanyX would be 70 million, which is the number of shares outstanding. However, again, this number is the number of shares that are in circulation and can be traded.
In addition, it is essential to mention and note that the relationship between the size of a company's number of floating shares and the volatility of the stock is an inverse relationship.
It is always essential for investors to understand how volatile a stock is. Investors worldwide look at volatility as one of the significant factors in deciding whether to buy a stock. Each stock is volatile, with some being less volatile than others.
A stock with more shares that can be traded will experience less volatility and have a more demanding time moving the price with fewer shares outstanding.
Another reason for the inverse relationship is the negative number you get for the variable, r, after figuring out the correlation of your data. If the number were positive, the relationship would be more linear than the inverse.
Adjustments can be made to the overall floating number, which affects the total number of shares. This can happen if an investor holds more than 5% of the total outstanding shares or buys them without real intention to sell them.
Why Stock Floats Are Important
The float of a stock is significant, particularly with investors. This is because it shows how much stock is available to be traded. This is valuable information, as it can be proven critical to know, such as during a potential short squeeze.
A short squeeze is when a stock goes up in price very drastically, even with most investors betting against it not doing so. The number of shares out there during a squeeze can increase or decrease depending on the number, making knowing the floating number crucial to investors.
Another reason this number is so significant is the ease of forecasting. If the company continues to generate revenue with a high floating rate and volume of daily trades, it is a good sign for investors looking to invest.
In the short term, stocks with lower float tend to be more volatile. This is due to the inverse relationship. If shares are not available, the demand will rise significantly. As a result, it will raise the price of the stock.
The same goes for the other way around, and if the number of shares outstanding is high, then the demand will decrease along with the stock price. The idea of supply and demand in most fields of finance is fundamental, but in terms of floating stock, they are imperative.
Examples Of Float
A great example of a stock squeeze was seen in 2021. The short squeeze of the GameStop stock was interesting from an investment standpoint.
Here is how it all started: GameStop has been a major player in the video game business for years. It can be considered a monopoly; there are not many competitors, other than a few local ones that had slowly been run out of business because of GameStop itself.
Leading up to the event in the year 2021, GameStop had been purchasing its stock before the squeeze took place, reducing the number of outstanding shares in the market.
As mentioned before, many investors are betting against the stock during a squeeze, hoping it will not increase in price in hopes of shorting it.
During such times, investors do whatever they can to make money. There is much room for error when investors are short-squeezing their stocks. It all ties back to the number of outstanding shares, combined with the volatility in the market at the time.
The low number of floating shares and the overwhelming number of people trying to sell their stocks short put them in a position where they had to buy more shares not to lose money.
As a result, the goal was met, and the stock shot through the roof as the squeeze went higher. Unfortunately, this method of short squeezing has a history of being very volatile, where it is hazardous, and you can lose much money very quickly.
There is also an example of another inverse relationship, as seen with upper management and the actual company owners in which these shares are traded. A higher public floating number could show the public that there is more of a chance of people advocating for a price hike.
In opposition, with more people on the inside owning stocks, it can represent more of a long-term positive outlook. With the shareholder's ideas in mind, the company can pass over those investors looking to make a quick profit.
Likewise, as the Treasury and other restricted stocks eventually get made public over time, that can either help or hinder, depending on the company's goals.
Stock Float Low and High
During an initial public offering of a company, you usually don't see 100% of the stock floating out there at once, where essentially, the owner is taking no stake in the stock.
While a company might still sell a small portion of the outstanding shares, the people closest to the actual company and those close to and within the company still hold a large portion of the remaining outstanding shares.
As we now know, these shares are often restricted. Robinhood, for example, floated about 7% of its stock at the time of its Initial Public Offering.
The reasons for a smaller float can be different from company to company, but there are some underlying reasons why keeping a lower number of these shares could be suitable for the companies that do so:
- The market at the time might not be able to take in all the outstanding shares, so people within the release of the IPOs could choose to sell only a fraction of the shares, which increased their value due to their scarcity.
- In these situations, the insiders who have the choice before anyone else of what to do will not want to sell any or, most likely, just about all of their shares as part of the IPO.
- A smaller number of floating shares is good because of its ability to boost the price of a stock compared to a stock with a larger one. However, the ability of scarcity to drive up demand will, in turn, drive up the cost, and the company can still attract a smaller set of investors who are more excited about the investment.
As a result, this can cause them to put more money upfront than they usually would have to get in on the action and increase excitement.
As a reminder, a higher price during an IPO can set a range psychologically for the price of a stock. It makes sense, as companies that usually start as fractions of cents are seen as long-term holds instead of companies that seem more established. This helps support the price over a more extended period.
Authorized vs. Outstanding vs. Float
Understanding the different kinds of shares and what they mean, specifically from an investment standpoint, is essential. If you do not understand the difference between the shares, you can lose a lot of money.
There are different classifications for stocks, specifically into three categories. Depending on the status of either the company or the stock, it can fall under and fit the criteria of these specific categories:
Authorized Shares
Shares deemed as authorized show how many shares the company can legally issue according to their rights, or charter, in which they signed. In addition, authorized shares give the company the flexibility to sell the stock if they need to do so in the future.
A company may have a considerable number of authorized shares but have no real intention of ever issuing them to the public. As companies keep note of making sure to specify the number of shares authorized, the company now protects investors from misinformation that could end up costing them money.
Outstanding Shares
Shares that are outstanding indicate and include how many shares there are of that company that is out there in existence. Outstanding shares include any shares which have been distributed and sold to the public. In addition, they are shares that are also given to other stakeholders.
Keep in mind a company can issue more stocks if it has authorized more shares than outstanding ones. For example, the company with the most outstanding shares worldwide is Berkshire Hataway.
Float
The float tells you how many shares are available for anyone in public to buy, sell, and trade. These do not include, among other things, a restricted stock usually held by people within the company itself. Likewise, if insiders within the company eventually have to sell their stock, the shares go right into the overall number.
To better understand this, a picture that the number of authorized shares is the largest of the three, including any inside shares and restricted ones not made available to the public. Again, as an investor, these are fundamental concepts to understand.
When these numbers go up or down, whether it be that of the floating shares or the outstanding number of shares, they are all essential and tie into investors' decisions on whether or not they should buy shares of this company.
Outstanding shares are available to the general public, with the total number of floating shares being the smallest.
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