Amazon, Tesla - Are Stocks Ever Too Expensive to Build Wealth?

Are stocks ever TOO expensive to build wealth? The answer is (drumroll)..NO! .Learn more about why stock pricing is an important principle to understand in building wealth in the stock market. Grab your cup of coffee and welcome to the Don't Die Broke Coffee Shop!

For example, two publicly traded companies may have an equal value of $100 million. Company A issues 20 million shares at $5 per share. Company B issues 2 million shares at $50 per share. Many new investors think they are getting a bargain at $5 per share because it seems less expensive.

Company A

Value: $100 million

Shares Issued: 20 million

Price per share: $5

Company B

Value: $100 million

Shares Issued: 2 million

Price per share: $50

Though the $5 per share seems more attractive, the value of each company is the same. Some investors may say, for example, Amazon (AMZN) or Tesla (TSLA) shares are too expensive per share. Or, some investors may say Ford (F) is a better bargain because it's less expensive. This is not an entirely accurate assessment if one understands how stock prices are determined. And more importantly, how the growth of a stock can impact share price. Based strictly on appreciation over time and growth potential, if these three stocks were equal price, which would you prefer to own? Should share price matter in your evaluation?

(Tesla, $880.02 per share, Ford, $9.00 per share, Amazon, $3,182.70 per share, as of 1/11/21)

How Stock Prices are Created

When a publicly-traded company goes through an initial public offering (IPO), a monetary value is assigned by an investment bank when shares are issued. The investment bank bases the value on formulas that determine how much a company is worth and how many shares will be sold to the public. The stock price per share is also assigned.

The bank may use comparative analysis with similar companies to help figure out what a company's stock price should be. Factors such as current and projected performance may also contribute to this determination. Once again, Amazon's stock or Tesla's stock is far more expensive than Ford's. But - what is the projected performance of these companies? Which company's stock do you anticipate growing faster?

If a company is assigned an estimated value of $100 million, it may issue 20 million shares at $5 per share. The company could also issue 2 million shares at $50 per share.

Stock prices and market capitalization

Market capitalization is a representation of a company's total value. Market capitalization is calculated by multiplying a company's total number of shares outstanding by the stock price per share. When we invest & build wealth, we also have to keep in mind that some companies, like Google (GOOG), will not split their stock shares as they rise in price (example - above $1,000 per share). Let's say Google split its shares 10:1. Each share would cost $100 instead of $1,000. The stock split would encourage more investors to purchase Google. The value of each share technically has not changed as the company's market cap is the same.

What causes a company's stock price to change?

Stock prices can go up or down depending on many different factors. Primarily though, it's all about supply and demand! If a company can generate long-term earnings and growth, investors will be happy to invest in it. Think Zoom (ZM) or Appian (APPN). With this growth in mind, investors will line up to purchase the stock. As more stock shares are purchased, the price generally is driven higher.

However, if a company's vision is faulty (maybe the company diversified too much, didn't diversify at all, or followed a trend too late), or earnings decline, shareholders may sell their shares of stock. Other investors who may have been interested will now search for alternative places to invest & build wealth. When the supply of shares increases and demand decreases, the stock price will fall.

There are other reasons a stock can fall. The leadership of the company is critical. So if leadership is not sound, the stock price can fall. If the company is involved in regulatory or media scandals, the stock price can decrease rapidly (see Luckin Coffee LKNCY). Plus, investors must account for global events and general market changes. This is why long-term investing in mutual funds is the best method for building wealth according to renowned investor Warren Buffett. This is especially true for new investors.

What's An Investor to Do to build wealth?

With all this in mind, does the price of a share matter? NO! This is especially true considering there are now ways to purchase fractional shares of expensive stocks. Better yet, investing in a solid index fund to build your wealth will let you benefit from the appreciation of these stocks while mitigating the risk of investing in only one or two of these expensive growth stocks.

Read all you can. Stay the course through the ups and downs of the market. BUILD YOUR WEALTH!

My next post will be on considerations for building wealth after 50 and building wealth after 60. And remember...Don't Die Broke!

Learn more about investing in Don't Die Broke: Easy Steps on How to Save, Invest, and Build Your Wealth by R.L. Borom.