Fractional Shares: What Are They and How Do They Work?

Fractional Shares: What Are They and How Do They Work?

Reading time: 6 minutes

Nowadays, it is common to read about a company’s share price reaching all-time highs; we only have to look at last year’s performance in the mega-cap tech industry and AI stocks. Known as the Magnificent Seven Stocks, the top performers in this category in 2023 were Nvidia (NVDA), with the company rallying +240%, followed by Meta (META) and Tesla (TSLA) adding +194% and +101%, respectively. Fortunately, purchasing fractional shares for many popular stocks is an option for investors. The aforementioned companies currently trade at $130 (Nvidia recently announced a ten-for-one stock split; before this, the stock was trading at $1,200 per share), $504, and $261, respectively. So, purchasing just one share of Meta would cost you around $500.

Some of the most expensive stocks in the world, however, run into the thousands, such as First Citizens BancShares, trading just under $1,800 per share, or Warren Buffet’s holding company, Berkshire Hathaway, the firm’s Class A stock – ticker BRK.A – is trading at an eye-popping $650,000 per share and is the most expensive stock in the world. That is more than the average US home price and is entirely unattainable for many investors. Unfortunately, fractional shares are not available for the Class A stock, and this is where the company’s Class B stock steps into the light (ticker: BRK.B). It is far cheaper – 1,500 times more affordable, to be precise – and is within reach of some investors, currently trading at $434. However, fractional shares are available for this class of stock (it is worth noting that owning Class B shares of this company comes with fewer/limited voting rights).

But what are fractional shares, and how do they work?

What are Fractional Shares?

Fractional shares represent a portion of a company’s stock that is less than one whole share and are available across all key markets. For example, the company could be listed in the US, Canada, Europe, the UK, or Asia.

Interestingly, stock brokerages began offering fractional shares towards the end of the 20^th century. Today, some platforms even allow market participants to invest in fractional shares through Exchange-Traded Funds (ETFs). Before this, investors could only acquire fractional shares through stock splits, mergers and acquisitions, and dividend reinvestment plans (DRIPs), though some mutual funds have supported fractional investing for years.

To understand the mechanics behind fractional shares, consider a share of a stock as a whole pizza currently valued at $500, and a slice represents a fraction of that share. Therefore, you would not be required to pay the full $500 if you plan to buy fractional shares. By way of an example, with fractional shares, you could invest in half a share for $250 or a quarter of a share for $125.

Fractional shares address a pressing issue for many new stock investors; they make purchasing shares of companies more affordable and allow these investors to participate in the growth potential of companies without the need to buy the stock at its total notional value. Traditionally, achieving a well-diversified portfolio might require a large sum of money to invest in various companies across different sectors. Trading fractional shares can help spread capital across a broader range of companies, mitigating risk and potentially improving returns.

Benefits of Fractional Shares

• Begin investing with a small amount of capital

If you are new to investing in the stock market, having the option of investing in big-name stocks that tend to carry higher price tags with fractional shares can mean a significant difference to new investors. This also lowers the barrier to entry for smaller investors.

• Diversification

Balancing risk and reward is vital if you plan on starting a stock portfolio. Maintaining a diversified portfolio reduces unsystematic risk by investing in stocks from different sectors and asset classes, such as bonds and commodities. The point is that with fractional shares, you can diversify your investment portfolio with less money.

• You can still receive dividend payments

Just like investing in whole shares of a company, where you receive payments of dividends, owning fractions of shares will entitle you to fractions of the stock’s dividend payments.

Drawbacks of Fractional Shares

• Difficult to transfer shares

Some investment platforms do not allow you to transfer fractional shares off the broker’s books. Instead, you would need to liquidate your holdings. You may also find liquidity risk can be an issue with some fractional shares.

• Limited stocks

The availability of fractional shares varies among stock brokerages.

• No voting rights

While holders of whole shares of common stock will have voting rights, fractional share investing does not carry voting rights.

Trade More Than 10,000 Shares with FP Markets

With FP Markets, investors can access over 10,000 shares via CFDs (Contracts for Differences).

CFDs are leveraged derivatives that permit market participants to trade on margin without the need to take physical delivery of the underlying asset (all CFDs are cash-settled instruments). This means that investors do not have to pay the full purchase price for a stock and are only required to deposit a small percentage of the notional value of the trade as an initial margin. Margin trading opens the door to larger position sizes, effectively leveraging one's positions and increasing exposure. You can find out more about CFDs here and how to buy and sell share CFDs with FP Markets here.

Fractional Shares FAQs:

1. What are fractional shares?

Fractional shares are portions of a whole share, allowing market participants to buy and sell higher-priced stocks for a fraction of the cost.

2. What are some of the benefits of fractional shares?

Fractional stock investing allows newer investors to begin with less capital, permits broader diversification, and provides access to dividend payments.

3. What are some of the drawbacks of fractional shares?

The disadvantages of investing in fractional shares are that selling your shares (or transferring them to another broker) can be difficult, there is limited stock availability on some platforms, and fractional investing does not come with voting rights.

4. Are there alternatives to fractional shares?

Yes. With FP Markets, you can trade over 10,000 stocks via CFDs, permitting investors to trade the underlying price movement on margin.