Private companies get listed on the stock markets after an initial public offering. Generally, public offerings are a mix of fresh issue and offer for sale, which is essentially stake sale by promoters and existing shareholders. After an IPO, the shares of a company are open to being traded by the public. Contrary to popular belief, the general public is not allowed to trade in a large chunk of shares of listed companies. There are no legal restrictions, but many companies smartly control the supply of shares in the market. Floating stocks are a key component in the demand and supply of shares in the market.
What is floating stock?
Before getting into the details of floating stocks meaning, let us get an idea of other related concepts. Three terms related to a company’s stock are often heard—outstanding shares, floating shares or floating stock and authorised shares. The shares outstanding of a company are the shares issued and actively held by shareholders. The authorised shares is a broader term. It takes into account the stock options provided to certain employees. Stock options can be converted to equity shares in the future, but are not fully issued and hence are not included in outstanding shares.
After a clear understanding of outstanding shares and authorised shares, one may ask: what is floating stock. The floating stock of a company is the total number of shares available for trading in the open market. The floating stock of a company can be ascertained by removing closely-held shares and restricted stock from shares outstanding. In many listed companies, a large chunk of shares is held by big shareholders, company insiders and employees. These shares are generally held for a long time and are not traded frequently. Similarly, sometimes temporary restrictions are placed on the trade of a certain number of shares. These types of shares are included in the restricted shares category.
Understanding of floating stock meaning
The floating stock of a company is essentially the shares that can be easily traded by common shareholders without any restrictions. Companies with a high proportion of floating stock are known as those with a large float, while companies with limited floating stocks are known as low float companies. A low float company may have a large number of outstanding shares but less floating stock. For instance, a company XYZ may have 10 million outstanding shares. Of the 10 million, institutional investors may hold 4 million, management and related parties may own 3.5 million and employees may hold 1.5 million. Only 1 million or 10% would be available for trading in the open market.
Importance of floating stock
The free float of a company is extremely important for investors, especially small investors. The stock of companies with low float is generally more volatile and has higher spreads. A large number of shares in low float companies is held by a few entities who may not be open to frequent buying and selling, thus, common investors may find it difficult to enter and exit low float stocks. Large institutional investors tend to avoid companies with a low float as there are fewer shares to trade. Low floating stock reduces liquidity and affects the share price when a large number of shares are bought.
Does the number of floating stocks change?
The number of floating stocks of a company keeps changing. Floating stock rises and falls due to the action of the company and large investors. The floating stock of a company may rise if the company issues fresh equity or promoters dilute stake through an offer for sale. Large investors and company insiders may also sell in the open market increasing the supply of shares. On the other side, a company may go for a share buyback which will reduce the floating stock in the market.
Barring a few companies, Indian firms generally do not have a high float. Indian companies have a high promoter holding as it allows promoters to exert control over the company, but reduces the availability of shares in the open market. One can invest in low float companies but one should always be wary of sudden price changes. Small companies with low floating stock should be avoided as the stock price would be vulnerable to manipulation.