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Should You Buy Nvidia Stock Before June 6?

The time has come: Nvidia‘s (NVDA -0.79%) long-awaited first-quarter report rounded out an exciting earnings season for artificial intelligence (AI) investors.

Indeed, revenue is soaring thanks to surging demand for Nvidia’s H100, A100, and new Blackwell graphics processing units (GPUs). Even better? The company’s pricing power is helping Nvidia achieve consistent margin expansion and profitability.

Nvidia is currently riding a once-in-a-generation growth wave. There’s so much information packed into their earnings report, it’s easy to become distracted by the latest record the company posted.

While the financial performance is undoubtedly impressive, there was one part of the earnings report that really caught my eye: Nvidia announced a 10-for-1 stock split.

According to the earnings release, investors owning shares of Nvidia as of market close on June 6 will be eligible for split-adjusted shares.

Let’s break down how stock splits work, and explore why scooping up shares of Nvidia now could be a good idea.

How do stock splits work?

Stock splits are a form of financial engineering. When a company splits its stock, two important things happen.

First, the number of outstanding shares increases by the ratio proposed in the split. Second, since the number of outstanding shares rises, the stock price subsequently drops by the same ratio.

If Nvidia’s 10-for-1 split were to go into effect today, anyone owning Nvidia stock would receive nine additional shares for every one share that they own. But at the same time, your average cost per share would be reduced by a factor of 10.

Since the share count and the stock price change by the same ratio, the market cap for Nvidia theoretically remains unchanged.

However, this is seldom the case. Let’s take a look at Nvidia’s stock-split history.

Has Nvidia split its stock before?

Nvidia has completed five stock splits since going public. The last time Nvidia split its stock was July 20, 2021.

The chart below illustrates movements in Nvidia stock 30 days after completing its 4-for-1 split in July 2021.

NVDA data by YCharts

The last time Nvidia split its stock, investors enjoyed nearly a 12% return in just one month following the split. By the end of December 2021, Nvidia stock had rallied an eye-popping 58% from the day it split in July.

Is now a good time to buy Nvidia stock?

Generally speaking, trading activity increases when a company conducts a stock split. The reason is because even though the split does not inherently change the valuation of the company, shares are perceived as less expensive.

In other words, since a split forces the stock price to go down, many investors think the stock is on sale and that they are taking advantage of a cheaper price. This is not the case, and it’s all psychological.

Now, with Nvidia stock trading over $1,000 per share, it’s likely that many retail investors view the stock as expensive. But keep in mind, even though the post-split price for Nvidia stock would be roughly $100, the charts above point out that stock-split stocks can experience outsize momentum. This means prices can rise sharply in a short period of time, and investors are actually buying shares at a higher valuation compared to pre-split levels.

Since Nvidia’s last split in July 2021, shares have rallied more than 450%. This abnormally high return has catapulted Nvidia to the world’s third most valuable business — only behind Microsoft and Apple.

This is where valuation analysis becomes important. Right now, Nvidia stock trades at a price-to-free-cash-flow multiple of 66. This might seem high, even for a growth stock. However, this is actually materially lower than Nvidia’s average over the last three and five years.

Moreover, Nvidia’s closest rival, Advanced Micro Devices, trades at a price-to-free-cash-flow ratio of 230x. Considering AMD isn’t growing anywhere near commensurate rates to that of Nvidia, I’d say that Nvidia stock looks more attractive.

While Nvidia stock might appear pricey, the analyses above illustrate that the company is actually trading at a more normalized level compared to its biggest competitor. Moreover, given the historical trends from Nvidia’s last stock split, I’m fairly confident that the stock could witness some newfound attention following the split.

For these reasons, I’d encourage investors to consider scooping up shares in Nvidia stock before June 6. While it may be tempting to flip shares for a quick profit following the split, the return over the last few years speaks for itself.

Investors should employ a long-term time horizon and allow the day traders to enter and exit around the time of the split. The longer-term themes showcase that buying shares before a split and holding them for several years is the superior strategy.

This post appeared first on fool.com

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