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What Are Fractional Shares? Explanation, Uses, and Examples

Last updated 03/28/2024 by

Abi Bus

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Fractional shares represent less than one full share of equity and are generated through various mechanisms such as stock splits, dividend reinvestment plans (DRIPs), and mergers. This article delves into the world of fractional shares, explaining their origins, benefits, and how they can be traded. Learn how fractional shares can empower investors with limited funds to access high-priced stocks and navigate the complexities of the stock market.
In the ever-evolving world of finance, understanding the nuances of investing is key to building a solid financial portfolio. One aspect that many investors encounter is fractional shares – a concept that often arises from stock market activities. In this article, we will explore the world of fractional shares, discussing what they are, how they come into existence, and their significance in the world of investments.

Understanding a fractional share

Dividend reinvestment plans

Fractional shares are born out of various financial events, with dividend reinvestment plans being a common source. A dividend reinvestment plan (DRIP) allows investors to utilize their dividend payouts to purchase more shares, including fractional ones. As these reinvested dividends accumulate, they can be used to acquire fractional shares, breaking the traditional notion of whole shares.

Stock splits

Stock splits are another event that can lead to fractional shares. These splits don’t always result in even numbers of shares. For example, a 3-for-2 stock split would provide three shares for every two shares owned, resulting in fractional shares. Investors may find themselves with fractions like 4.5 shares, 7.5 shares, and so on.

Mergers and acquisitions

Mergers and acquisitions (M&As) may also create fractional shares when companies merge using a predetermined ratio. Shareholders of both companies may end up with fractional shares as a result of this process.

Intentional splitting

Some brokerage firms intentionally split whole shares to offer fractional shares to their clients. This is particularly common with high-priced stocks like Amazon or Alphabet. Fractional shares enable individual investors with limited funds to invest in such companies. For instance, a young investor might want to buy Amazon shares with $1,000, but this amount isn’t sufficient to buy a full share. In such cases, brokerage firms can sell fractional shares, allowing investors to own a part of these high-value stocks.

Trading fractional shares

Selling fractional shares can be more complex than selling whole shares, as they don’t trade on the open market. The only way to sell fractional shares is through a major brokerage firm, which can aggregate them until they form a whole share.

Consider market demand

The time it takes to sell fractional shares can vary, depending on the demand for the stock in the market. High-demand stocks are more likely to find buyers for fractional shares. For instance, if an investor has 337.5 shares of XYZ stock after a stock split, they might find a brokerage willing to purchase the fractional share if there’s high demand for XYZ stock. Alternatively, they can seek a brokerage that will sell them another half share to round up to 338 full shares.

Real-world example of a fractional share

In November 2019, Interactive Brokers made history by becoming the first major online broker to offer fractional shares trading. Shortly after, in January 2020, Fidelity followed suit, announcing its intention to offer fractional shares trading in equities and ETFs. These developments highlighted the growing popularity and demand for fractional share trading among investors.
Here is a list of the benefits and the drawbacks to consider.
  • Access to high-value stocks: Fractional shares allow investors with limited funds to invest in high-priced stocks, expanding their investment options.
  • Diversification: Investors can spread their investments across various stocks, reducing risk.
  • Reinvestment opportunities: Fractional shares enable the reinvestment of dividends, promoting long-term growth.
  • Limited marketability: Fractional shares aren’t as easy to trade as whole shares, and selling them may take longer.
  • Potential fees: Some brokerage firms may charge fees for handling fractional shares.

Frequently asked questions

What are the benefits of owning fractional shares?

Owning fractional shares allows investors to access high-value stocks, diversify their portfolios, and reinvest dividends, all while working with limited funds.

Are there fees associated with trading fractional shares?

Yes, some brokerage firms may charge fees for handling fractional shares. Investors should review the fee structure of their chosen brokerage.

Can fractional shares be used in retirement accounts?

Yes, many brokerage firms allow investors to hold fractional shares in retirement accounts, making them a convenient option for retirement planning.

Key takeaways

  • Fractional shares represent a portion of an equity stock that is less than one full share.
  • They can result from various events, including dividend reinvestment plans, stock splits, mergers, and acquisitions.
  • Fractional shares offer access to high-priced stocks and diversification opportunities for investors with limited funds.
  • The only way to sell fractional shares is through a major brokerage firm, which can aggregate them to form whole shares.

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