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There Is Nothing Special About Sub-Dollar Stocks

Phil Mackintosh
Phil Mackintosh Nasdaq Chief Economist

It’s true. There is nothing special about sub-dollar stocks — unless you trade in the U.S. markets! 

In reality, price should not matter – valuation is more important. On that front, what listing exchanges do well is: 

  • Require companies to provide transparency into their operations, financial condition, liquidity and corporate governance for investors to make informed valuation decisions. These are part of SEC and listing rules. 
  • Provide tight spreads: Public bids and offer prices lead to quote competition, which lowers investors’ trading costs and helps reduce listed companies’ costs of capital. 
  • Help companies access capital: Public markets help companies access capital, make new investments in their business, hire more workers and grow revenues. That’s good for the economy. 

Combining these functions helps with price discovery, which should help investors value companies based on the fundamentals and the outlook for each stock. That, in turn, allows capital to be allocated to companies as efficiently as possible – more capital for companies more likely to be successful, and vice versa.  

Importantly, public ownership of companies is also something that sets the U.S. market apart, adding to liquidity and reducing costs of capital while also helping with the financial security of American households. 

Other countries don’t care at what price a stock trades 

Other countries seem to know that price doesn’t matter as much as valuation.  

When we look at stocks from around the world, we see that many countries have far more sub-dollar stocks than the U.S. (Chart 1). Because most countries have fewer companies than the U.S. market, the proportion of all listings priced below US$1 is typically much higher than in the U.S. (dots, right-axis, Chart 1). 

Chart 1: Lots of countries have a high proportion of stocks priced under US$1

Lots of countries have a high proportion of stocks priced under US$1

Looking at market capitalizations and stock prices for some of the larger countries is interesting.  

We see some very large companies with very low per-share prices. This is just math – those companies have more shares than comparable-sized companies, resulting in a lower per-share price. Based on the data for the four countries shown below, we highlight: 

  • Smaller companies do tend to have lower-priced stocks and vice versa (the dots below are somewhat diagonal). The math of valuations only explains a part of this (a low stock price will reduce market capitalization, but the dots do not fall along a diagonal). What also happens is intuitive: larger companies have often merged more and raised more additional capital over their lives or done stock splits – so they tend to have more shares in total. 
  • The Hong Kong market, in particular, has a number of low-priced stocks that are worth more than US$1 billion. 
  • The U.S. market is clearly different – with very few companies priced below $1 – regardless of market capitalization (or company size). As we detail below, there are some U.S.-specific reasons this occurs. 

Chart 2: In some countries, very large market cap stocks are priced under $1 

In some countries, very large market cap stocks are priced under $1

There is a good reason for U.S. companies to reverse split above $1 

As we’ve written about many times, including in a new academic paper, because the U.S. has a 1-cent-tick-fits-all market structure, the tick size itself can result in unnecessarily high trading costs – and trading distortions – for investors. 

That’s not the case for most other countries, which have a more dynamic tick regime to counteract the costs that a large tick adds to trading. For example (Chart 3): 

  • In Hong Kong, the tick splits (and aggregates) as prices change so that the tick is almost always less than 10 basis points. 
  • In Japan, there are two tick groups, allowing liquid stocks to trade with a tick of around 2 basis points, while less liquid stocks have a tick closer to 10 basis points. 
  • In the U.S., the 1-cent tick leads to a minimum spread of 100 basis points (on a $1 stock), while high-priced stocks have ticks that are a fraction of the typical spread, resulting in “pennying” of the quote. 

Chart 3: The fixed U.S. tick makes trading costs in low-priced stocks artificially expensive 

The fixed U.S. tick makes trading costs in low-priced stocks artificially expensive

There is ample evidence that the U.S. 1-cent-tick creates distortions in trading. Our research suggests that all stocks have a “perfect” stock price that makes ticks optimal, resulting in lower spreads, less opportunity costs, less pennying, lower trading costs and more liquidity. 

Chart 4: The fixed U.S. tick makes trading costs in low-priced stocks artificially expensive 

The fixed U.S. tick makes trading costs in low-priced stocks artificially expensive

Market experts might point out that sub-dollar stocks are allowed to trade with smaller ticks (in hundredths of a cent, as we show in Chart 3). But that ignores the fact that commissions are also typically charged in cents-per-share. That makes trading in low-priced stocks unnecessarily expensive for investors.  

In short, reverse splits are good for investors. That, in turn, helps reduce the costs of capital for companies. 

How Nasdaq listing rules work 

Nasdaq listing rules cover a lot more than the $1 price test (Nasdaq Listing Rule 5810(c)(3)(A)). Our listing rules also require that companies maintain:  

  • Minimum public float and stockholders’ equity to ensure a company has sufficient capacity for public investment. 
  • Number of shareholders so that there is sufficient interest in the security to support an exchange trading environment. 
  • Board independence and independent audit, compensation and nomination committees to provide oversight of management and improve the reliability of information available to shareholders. 
  • Shareholder approval to provide shareholders with a voice on equity compensation and significant acquisitions, capital raising and other transactions. 

Continued listing rules for U.S. exchanges are required to be approved by the SEC; however, they have remained consistent for over 10 years. 

Delisting a company can have enormous implications for the company’s investors, employees, and the communities where the company operates, as it cuts off access to capital and likely hurts its valuation. 

Some companies just need time for prices to recover 

One of the features of the sub-dollar listing rules is they allow companies time to recover. 

That can be important as it can avoid unnecessary administrative costs and the distraction of a split. The data in the right column below also shows that most companies tend to return their prices above $1 faster than the maximum time allowed. 

Table 1: Requirements and the process to become compliant with Nasdaq’s $1 rules 

Requirements and the process to become compliant with Nasdaq’s $1 rules

Some have suggested that “penny stocks (are) not ready for the prime time” of being a listed NMS market stock. However, the data shows that delisting based on a stock’s price would often be harmful to companies and investors. 

Nowhere is that point clearer than looking at the largest companies in the U.S. market that have, at some time since the 1970s, closed below $1 (based on FactSet data).  

Many are household names with thousands of employees. The largest and probably most high-profile company on this list is Citigroup. During the financial crisis, it traded below $1 before doing its own reverse split. It is now a $105 billion company with almost 240,000 employees. 

Table 2: Largest companies that have been sub-dollar at some time since 1970 

Largest companies that have been sub-dollar at some time since 1970

The age of sub-dollar stocks is consistent over time 

In fact, when we look at the length of time companies have remained below $1, we see that less than 25% of companies remain sub-dollar after 210 days. Additionally, almost all the greater than 390-day companies (red group below) right now are listed on the NYSE American Exchange, which does not have a $1 listing rule. 

Chart 5: The “aging” of sub-dollar stocks is consistent over time 

The “aging” of sub-dollar stocks is consistent over time

There are a number of companies below $1 increased after rate hikes 

It is true that, as interest rates increased during 2023, the number of companies that failed Nasdaq’s $1 bid test increased. However, the current ratio (at around 12%) is less than we saw during the credit crisis and in line with the level seen during the early 2000s. 

Chart 6: The level of sub-dollar stocks is consistent with other periods of microcap underperformance

The level of sub-dollar stocks is consistent with other periods of microcap underperformance

The number of shares traded below $1 increased during Covid 

Interestingly, sub-dollar volumes increased during 2022 (one year earlier than the increase in stocks failing the bid test in the chart above) and have been mostly stable since then. It’s also interesting to see that the volumes in all stocks priced below $5 have been in a similar range since 2020, a much longer period. 

Chart 7: Low-price stocks proportion of ADV over time has been relatively stable since 2020

Low-price stocks proportion of ADV over time has been relatively stable since 2020

Some have complained that trading in these micro-cap stocks artificially inflates market liquidity. This is only true because the U.S. counts “shares traded” as liquidity – and the reason the U.S. does that is tied to U.S. brokers charging commissions in cents-per-share.   

It is also just math – trading $100,000 worth of a: 

  • 10-cent stock requires a 1 million share trade.  
  • BKNG, a $3,700 stock, is an odd lot (at least for now). 

However, measuring liquidity in dollars distorts liquidity too. As we recently saw, it overstates the importance of large-cap companies. 

Sub-dollar stocks don’t trade much on exchange 

It’s also important to note that sub-dollar stocks actually trade mostly off-exchange.  

That means they impact exchange-ADV much less than the chart above suggests. 

Those with a theory that market makers use low-priced stocks to hit exchange tiers are ignoring this, plus some important economics that applies to traders: Exchange fees and wide spreads make it expensive for traders to artificially increase trading in these names just to hit a volume tier. 

Chart 8: Sub-dollar stocks typically trade much more “off-exchange” than other stocks

Sub-dollar stocks typically trade much more “off-exchange” than other stocks

Instead, as the dot size in the chart above shows, most of the value being traded in the U.S. market occurs in stocks priced above $50. In contrast, all sub-dollar trading combined adds to just 0.08% of the value traded. 

Only in the U.S. market could this be a problem 

In most countries, a low-priced stock is nothing special at all. Ticks adjust to ensure spreads stay affordable, liquidity is measured in value, and commissions are charged in basis points. 

Only in the U.S. does the math of sub-dollar stocks cause trading distortions. Only in the U.S. are reverse splits required to make companies trade with more affordable commissions again. 

At the end of the day, a well-informed valuation matters much more to investors than a stock’s current price — even in the U.S. 

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