Fractional Share: Unit of Stock Less Than One Full Share

August 25, 2024 4 min read Finance Investments Fractional Share Stock Market Investment Dividends Trading

A fractional share represents a unit of stock that is less than one full share. It occurs as a result of stock dividends, stock splits, or through direct fractional share purchasing programs.

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A fractional share represents a unit of stock that is less than one full share. Fractional shares typically arise due to stock dividends, stock splits, and through direct fractional share purchasing programs offered by various brokerage firms.

How Fractional Shares Are Created

There are several ways in which investors can end up with fractional shares:

Stock Dividends

When a company declares a stock dividend, shareholders receive additional shares in proportion to the shares they already own. For example, if a shareholder owns 50 shares and the company declares a 5% stock dividend, the owner will receive 2.5 additional shares. Fractional shares like these can either be rounded up by purchasing the necessary part of a share or settled in cash.

Stock Splits

Stock splits can also result in fractional shares. For example, in a 3-for-2 stock split, each existing share becomes 1.5 shares. Investors with an odd number of shares before the split will end up with fractional shares.

Some brokerage firms allow investors to buy partial shares directly. This is particularly useful for retail investors who want to invest in high-value stocks but cannot afford a whole share.

Advantages and Disadvantages of Fractional Shares

Advantages

Accessibility: Allows more investors to diversify their portfolio without requiring significant capital.
Reinvestment: Enables the reinvestment of dividends, resulting in fractional shares.
Flexibility: Allows for precise investment amounts, aiding in better portfolio management.

Disadvantages

Liquidity: Fractional shares can be harder to sell as there may not be a ready market for them.
Brokerage Limitations: Not all brokers support fractional share trading.
Complexity: Managing fractional shares can add complexity to tracking investments and taxes.

Stock Dividends
- A shareholder owns 100 shares. The company declares a 3% dividend.
- Result: The shareholder receives 3 additional shares (100 * 0.03).
Stock Splits
- A shareholder owns 75 shares. The company announces a 2-for-3 split.
- Result: The shareholder ends up with 50 shares (75 / 3 * 2).
Partial Share Purchase
- An investor wishes to invest $250 in a stock priced at $400 per share.
- Result: The investor obtains 0.625 shares.

Historical Context and Applicability

Fractional shares have been around for as long as stock splits and dividends have existed, but they gained significant attention with the advent of online brokerage platforms that started offering direct fractional share purchases. This development democratized investing, enabling smaller investors to own shares of high-value stocks—companies like Amazon, Google, and Tesla—without needing large amounts of capital.

Comparison to Whole Shares

Whole shares represent a full unit of stock as opposed to a fraction. Key differences include:

Liquidity: Whole shares generally have better liquidity compared to fractional shares.
Market Availability: Whole shares are readily available for trading on the stock market, while fractional shares may not be.
Ease of Transactions: Whole shares simplify buy, sell, and transfer processes.

Stock Dividend: A payment made in the form of additional shares, rather than cash.
Stock Split: An increase in the number of shares, reducing the stock price proportionally.
Dividend Reinvestment Plan (DRIP): A plan that allows investors to reinvest cash dividends into additional shares, including fractional shares.
Brokerage: A firm that facilitates the buying and selling of financial securities.
Partially Paid Shares: Shares that have been only partially paid for by the shareholder.

FAQs

Can fractional shares be transferred between brokerages?

It depends on the brokerage policies. Some brokers allow the transfer of fractional shares, while others may require liquidation into cash.

How are fractional shares taxed?

Fractional shares are taxed similarly to full shares. Capital gains/losses incurred from sale and dividends received are subject to taxation.

Can I vote with fractional shares?

Voting rights typically depend on the number of shares owned. Fractional shares may not come with voting rights, or the voting power might be proportionally reduced.

Are there specific fees associated with trading fractional shares?

Some brokerages may charge fees for dealing in fractional shares. It’s important to check with the individual brokerage.

How do dividends work with fractional shares?

Dividends are paid proportionally to the fraction of the share owned. For example, if a full share receives a $2 dividend, a 0.5 fractional share would receive $1.

References

Investopedia. “Fractional Share.” Investopedia, 2023. Investopedia - Fractional Shares
Securities and Exchange Commission (SEC). “Investor Bulletin: Fractional Share Investing.” SEC.gov, 2022.
Financial Industry Regulatory Authority (FINRA). “Buying and Selling Fractional Shares.” FINRA, 2021.

Summary

Fractional shares offer a flexible, accessible entry point into the stock market for investors with limited capital. While they may introduce additional considerations around liquidity and transaction complexity, their benefits in terms of diversification and precise investment amounts are significant. Understanding the mechanics, benefits, and limitations of fractional shares can help investors make well-informed decisions in modern finance settings.