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Understanding the different aspects of the stock market is the key to making informed and wise investment decisions. Of the many factors, keeping track of the stock’s opening and closing prices is one of the fundamental things investors do before trading that stock.
Like the closing price, understanding how adjusted closing price works, is important for investors. The adjusted close price represents a stock’s actual value more accurately. In today’s article, let us understand what adjusted closing price means and why it is necessary for investors in decision-making.
What is the adjusted closing price?
A stock’s closing price, as we all know, is the price at which the stock trades before the market closes for the day. However, this figure is raw and may not include the required factors. That is where the adjusted closing price comes into the picture.
The adjusted closing price alters the raw closing price to consider the effect of corporate actions like dividends, stock splits, stock consolidations, and other actions since the firm’s listing on the stock exchange.
Understanding the difference between the adjusted closing price vs. the closing price is crucial as it helps investors look at the appropriate factor while making investment decisions.
Calculating the adjusted closing price
Adjusted close price formula: Closing price +/- Adjustments due to corporate actions.
The first step to calculate the adjusted closing price is to analyse the monetary impact of a corporate action. This number is then added or subtracted from the stock’s closing price to reflect the adjustment.
Importance of adjusted closing price
The adjusted closing price properly represents a stock’s historical performance and makes a provision for all changes in the firm’s capital structure.
It allows investors to make accurate performance analyses of stocks by considering the effects of significant corporate actions such as splits and dividends. Analysing two stocks using the adjusted closing price provides for an apple-to-apple comparison and helps in more authentic results.
With the adjusted closing price, investors can understand the true return on their investments, unlike the returns calculated based on raw closing price, which may be incomplete. Technical analysts also use the adjusted closing price to capture historical data to forecast future movements.
Example of the adjusted closing price
Usually, when a stock declares a dividend, its price goes down. This is because a dividend is paid out of the firm’s profits to shareholders instead of investing it back into the business.
Similarly, when a stock is split, shares outstanding in the market goes up and the price per unit falls.
For example, Company ABC announced a stock split in the ratio of 3:1. Before the stock split, ABC had 1,000 shares, and the stocks closed at ₹300. After the split, the number of stocks increased to 3,000 (1,000 *3) and the close price per share was adjusted to factor in the impact of the splitting. So, the adjusted closing price stood at ₹100 (₹300/3).
Consider the real-world example of Reliance Industries. Though the closing price and adjusted closing price are the same now, they have been different for more than a year until August 2023.
As of 18 August 2023, Reliance Industries’ closing price was ₹2,556.80, whereas the adjusted closing price was ₹2,547.80.
Challenges in maintaining accurate adjusted closing prices
One of the primary channels to maintain accurate adjusted prices is getting accurate details on corporate actions. Different publications may provide details about corporate actions with some changes in numbers. Such changes can significantly affect the adjusted closing price. Hence, it is always advised to rely on official information on the company’s website while calculating the adjusted closing price.
Besides, corporate actions are dynamic. Hence, it is essential to check the adjusted closing price regularly to ensure it is in line with the effects of all corporate actions to date.
Different Types of Adjustments in Adjusted Closing Price
The adjusted closing price is a stock’s closing price after accounting for any corporate actions that might affect its value. These adjustments are made to give a more accurate representation of a stock’s value over time, ensuring investors can compare historical prices in a meaningful way. Here are the different types of adjustments made to the adjusted closing price:
- Dividends: When a company pays out dividends, the stock price typically drops by the dividend amount on the ex-dividend date. The adjusted closing price reflects this by subtracting the dividend value from the stock price. This adjustment ensures that the historical price doesn’t appear artificially inflated due to dividends.
- Stock Splits: In a stock split, a company issues more shares to existing shareholders, typically at a lower price. For example, in a 2-for-1 stock split, shareholders get two shares for every share they hold, but the stock price is halved. The adjusted closing price is recalculated to reflect the impact of the split, ensuring consistency in price trends.
- Reverse Stock Splits: A reverse stock split is the opposite of a regular stock split, where a company consolidates its shares. For example, in a 1-for-2 reverse stock split, shareholders receive one share for every two shares they hold, and the stock price doubles. The adjusted closing price is modified accordingly to account for this change.
- Rights Offerings: A rights offering allows existing shareholders to purchase additional shares at a discount, usually at a price lower than the current market value. The adjusted closing price incorporates this change by adjusting the price based on the value of the newly issued shares.
- Mergers and Acquisitions (M&A): When a company merges with or is acquired by another, its stock price often changes due to the terms of the deal. The adjusted closing price reflects the value shift after the merger or acquisition, allowing investors to compare historical prices as if the companies were always combined.
- Spin-offs and Divestitures: A spin-off occurs when a company creates a new independent company by distributing shares to its current shareholders. Similarly, divestitures happen when a company sells off a part of its business. Adjusted closing prices account for these actions by adjusting the stock price to reflect the impact of the spin-off or sale.
These adjustments are necessary to reflect the true market value of a stock over time, providing a more accurate picture of its performance.
Key Criticisms of the Adjusted Closing Price
While the adjusted closing price is a useful tool for understanding the true value of a stock, it is not without its criticisms. Some of the key concerns include:
- Complexity and Transparency: The process of adjusting stock prices can be complex, and not all investors understand how these adjustments are made. This lack of transparency can lead to confusion, especially for those who are new to the stock market or not familiar with corporate actions.
- Over-reliance on Adjusted Data: Some investors might rely too heavily on adjusted closing prices when making investment decisions. While the adjustments provide a clearer picture of stock performance, they can mask important nuances, such as sudden price volatility or investor sentiment, which might be revealed by the unadjusted price.
- Market Distortions: Adjusted closing prices reflect theoretical values and may not always align with the actual market value of a stock. For example, after a stock split, the adjusted price may not reflect the market’s immediate reaction, which can lead to distortions in price trends.
- Lagging Indicator: Adjusted closing prices are updated only after the market has closed, which means they are always a step behind real-time market movements. In fast-moving markets, this lag can lead to outdated information when assessing stock performance.
- Assumption of Perfect Knowledge: Adjusting the price assumes that all market participants have perfect knowledge of the corporate actions that led to the adjustment. This isn’t always the case, and certain corporate actions (such as dividends or stock splits) can be announced in ways that impact stock prices unpredictably.
Despite these criticisms, the adjusted closing price remains a valuable tool for historical analysis, but it’s important for investors to be aware of its limitations.
Major Benefits of the Adjusted Closing Price
Despite the criticisms, the adjusted closing price offers several significant advantages that make it an essential tool for investors and analysts:
- Accurate Historical Comparisons: The primary benefit of the adjusted closing price is that it allows for accurate comparisons across different time periods. By accounting for corporate actions like dividends, stock splits, and mergers, the adjusted closing price ensures that stock price trends are not artificially skewed by these events. This helps investors analyze the stock’s true performance over time.
- Reflects the Real Value of Investments: For investors who rely on historical data to track stock performance or make investment decisions, the adjusted closing price provides a clearer view of the stock’s real value. This is especially useful for evaluating long-term investments, as it factors in dividends and other corporate actions that contribute to total returns.
- Simplicity and Consistency: By adjusting stock prices for events like dividends or splits, the adjusted closing price standardizes historical data. This makes it easier for investors to analyze a stock’s price movements without having to manually account for corporate actions. It provides a more consistent data set for analysis.
- Helps in Portfolio Performance Tracking: For portfolio managers, the adjusted closing price is essential in tracking performance, especially when a portfolio contains stocks that pay dividends or have undergone splits. By using the adjusted closing price, managers can assess the true performance of their portfolio, without being misled by price distortions caused by corporate actions.
- Better Long-Term Investment Insights: The adjusted closing price helps investors understand the real growth of their investments over time, including the impact of dividends and stock splits. This is particularly valuable for long-term investors who focus on the overall return on investment rather than short-term fluctuations in stock price.
Conclusion
As financial markets continue to evolve and grow, the role of accuracy in data analysis for investment decisions is becoming more critical. Hence, adjusted closing price is an indispensable tool for investors and analysts to analyse a stock’s performance.
The adjusted closing price is a fundamental concept that represents a stock’s closing price after making adjustments to it based on corporate actions. Using the adjusted closing price over the raw closing price helps investors ensure accuracy in their decisions.
FAQs
The closing price is calculated by considering a weighted average of a stock’s trading prices in the last half an hour before the market closes.
To calculate the adjusted closing price, one must first calculate the impact of the corporate action. Based on how the corporate action affects the stock price, the impact is added or subtracted from the existing closing price.
The adjusted closing price is more accurate as compared to the raw closing price. Since the adjusted closing price accounts for changes in the stock’s capital, using this for analysing and calculating returns provides better results.
Dividends are removed from the company’s profits and distributed to shareholders. Since stock prices are highly dependent on profits, distributing dividends to shareholders brings the profits down, hence affecting the stock prices. To show the impact of dividends on stock prices, dividends are subtracted from closing prices to arrive at adjusted closing prices.
last price and closing price are not the same.
The last price represents the price of the last transaction of a stock before the market closes. The closing price is a weighted average of trading prices of a stock in the last half an hour before the market closes. The last price is a single value, whereas the closing price is an average and summarises the performance of the stock before market closing.