Reverse Splits: Fewer Pieces of a Smaller Pie

Wall Street's $5-and-under club has a lot of new members these days. Almost 10%, or 47 companies in the Standard & Poor's 500 stock-index, are trading under $5 while three—eTrade (ETFC), American International Group (AIG), and Tenet Healthcare (THC)—are under $1. That's why more companies are expected to try an old trick: reverse stock splits. Time Warner Cable is slated to complete a reverse-stock-split offering by Mar. 12 as part of its separation from Time Warner (TWX), which should wrap its own reverse split by Mar. 27.

Companies use reverse splits when stocks are depressed as a way to boost share prices while decreasing the number of shares outstanding. Time Warner and Time Warner Cable's reverse splits involve exchanging three shares for one, which will then trade at a higher price. That means if you own 3,000 shares of either entity, you'd get just 1,000 shares after the reverse split. Naturally, your stake will be worth the same amount, but companies as well as investors place a psychological premium on a higher stock price.