What is free-float market capitalisation?
Market capitalisation is perhaps one of the most noticed pieces of information just after the price of a stock. However, few take note of the types of market capitalisation that exist in the market. It might not have a significant impact on a retail investor for making an investment decision, but certainly is the kind of information that is a fundamental addition to your financial knowledge base.
The market capitalisation is an easy number to get at. Market capitalisation = Price of a stock* total outstanding number of shares. The market cap is used to determine if the stock falls into the category of large-cap, mid-cap, or small-cap. However, the free-float market cap is a slightly different concept. Instead of using the total outstanding shares for calculation, in a free-float market cap, only those shares are considered that are available publicly. The shares held privately by promoters, trusts, or governments are not considered in the calculation. In simpler terms, we can say that actively traded shares are used for calculating free float. The inactive shares or locked-in shares by promoters, which are not usually traded, are excluded from the calculation.
Let’s understand this with an easy calculation. For example, company A has issued a total of 1,000 shares, out of which, 50 per cent is held by promoters while 50 per cent is owned by the public. Let’s assume, the stock price is Rs 50. Then,
Total market cap is equal to, 50 * 1,000= 50,000
Free float market cap is equal to, 50 * 500 = 25,000
Going ahead, you might cross paths with the concept of the free-float factor. In the above example, we have a free-float factor of 0.5, which means, 50 per cent of outstanding shares are considered for calculation.
Where does it matter?
It may not be wrong to say that the free-float market cap represents a true picture of the enterprise compared to the total market cap. One might tend to think that there is abundant liquidity just by looking at the total market cap. However, the reality may be different as the majority of shares might be privately held. And as a shareholder, this concept is quite intuitive. The free-float market capitalisation method is widely used in the making of an index. Be it Sensex, Nifty or S&P 500, majority of indices use free-float cap method for the construction of an index.
Inverse relation with volatility
The volatility in the stock prices is inversely related to the size of the free float. Higher float implies that there is an abundant supply of stocks and traders are less likely to manipulate the prices. However, a lower float size implies that the controlling shareholders have a greater influence on the stock prices. And this is why investors are also taking note of the free float of the company before making an investment decision. Will you have a look at it too?