Free float

Free float is the part of a company's issued share capital held by investors who are free to dispose of their shares and willing to sell them in the market at the current price. Blocks that never reach the exchange are left out of the calculation: stakes held by the state and by controlling owners, shares held by affiliated entities and management, treasury shares and quasi-treasury shares sitting on the balance sheets of subsidiaries. What remains is the free float; it is expressed as a proportion of all shares of the same class.

How the ratio is derived

The numerator is the number of shares outside strategic holdings, the denominator is the total number of shares issued. The difficulty lies not in the division but in deciding which holding counts as strategic: the rules are set by the exchange, which applies them to all issuers in the same way, relying on mandatory disclosure of the ownership structure. The ratio is revised on a schedule rather than after every trade, so it moves in steps — on review dates, when new ownership filings or the outcome of an offering, buyback or conversion are fed into the calculation.

Multiplying the ratio by market capitalisation gives the value of the tradable part of the business. It is this figure, not full capitalisation, that determines a stock's weight in indices and feeds into the calculations of index-tracking funds: a fund can buy only what is for sale.

The link to market behaviour

The wider the free float, the more independent holders shape the order book and the more densely it is filled with orders. Hence the direct link to liquidity: a narrow free float means a thin order book, a wide spread and higher volatility on orders of ordinary size. When non-public or thinly traded stakes are valued, this feature is accounted for through a separate adjustment — the illiquidity discount.

The easiest way to check the theory against the market is to look at turnover: the leaders by daily turnover are almost always stocks with a wide free float.

Common mix-ups

Free float is often confused with trading turnover. They are different things: the proportion of freely traded shares describes the ownership structure, while turnover describes activity. A stock with a wide free float can trade sluggishly if there is no interest in it.

The second mistake is to drag the ratio into per-share calculations. Earnings, book value and dividends are spread across all issued shares, not only the free ones, so a multiple such as P/E is calculated on the full share count. Dividing earnings by the free float artificially distorts the result.

Finally, the ratio says nothing about who holds the free portion. Shares that are formally free may be concentrated in a handful of large portfolios, in which case the actual supply on the exchange will be narrower than the figure suggests.