Fractional share investing is a recent fintech innovation. Its influence was seen during the pandemic, when an influx of new investors was seen in certain international jurisdictions. In India, the International Financial Services Centre Authority (IFSCA) had in 2022 authorized the dealing of fractional shares under its regulated sandbox system; which enabled retail investors to buy and sell US equities within the limits set by Reserve Bank of India’s Liberalized Remittance Scheme (LRS). The concept of fractional shares is missing in an absolute form in Indian markets though it is supported in some form through mutual fund and ETF investing.
Fractional investing allows people to purchase a portion of the stock rather than as a whole. For example, if the price of a share is ₹500, then one can even procure it at one-tenth the cost with fractional investing. Popular stocks in India are prohibitively expensive for small investors to buy. Fractional shares would allow for inclusive access to small investors, improve their portfolio diversification and democratize securities markets.
In the US, fractional shares regime was introduced by brokerages and fintech companies. They propagated ownership of large shares, such as those of FAANG— Facebook (now Meta), Amazon, Apple, Netflix, and Google (now Alphabet)—to retail investors and in turn found out ways and means to make that a reality by allowing fractional share trading. Thereafter, the regulators backed these brokerages after testing their preparedness and introducing a regulatory structure to invest in fractional “shares and ETFs”. In this set-up, a high value share is bought by the broker and split among interested investors in proportion to their investment.
These brokerages leverage block-chain technology to maintain a ledger for each investor having fractional ownership of shares. This is called the distributed ledger technology (DLT) which helps in maintaining the records of ownership rights, voting rights, dividends, and bonus issues, while ensuring micro-level transparency and minimising cost of operations. The brokers keep track of the investor’s identity in the ledgers, even if majority shares are registered in the brokers’ names. This has been a tried and tested mechanism in the US which has enabled investors to comfortably engage in fractional shares investing. Thus, there could be some takeaways from this for India.
Technological capabilities would certainly not take much time to make fractional shares a reality, however, the Indian securities market landscape is yet not prepared. Fractional shares need to be defined in the regulatory statutes; roles and responsibilities of MIIs and various intermediaries such brokerages, registrar and transfer agents need to be defined; rules for usage of funds/securities need to be laid down. Various aspects related to shareholders rights, shareholders activism, investor protection, and various types of frauds need to be pondered over.
Another important takeaway is that fractional investing in the US attracted millennials and gen Z who are prone to social media influence. This was showcased through the infamous ‘Gamestop’ episode wherein the company witnessed a meteoric rise of its share prices in spite of institutional investors betting massively against its success. Here, tiny trades by retail investors based on viral online trends and discussions rather than financial analysis caused significant price fluctuations. Fractional trading platforms and apps providing quick accessibility to retail investors were instrumental in this phenomenon. Thus, an important lesson is that inclusive access to small investors through fractional shares need to be complemented with financial education.
Since this trading innovation relaxes capital constraints faced by a retail investor, it could prove to be detrimental if misused by people for artificially inflating or deflating the stocks. Also, fractional investing could result in some people speculating in ‘meme stocks’ (stocks gaining popularity due to social media sentiments) that promise a fortune thereby leading to dysfunctioning markets. We need to embrace the experiences and lessons from other countries so that we err less and focus on evolving aspects of fractional share investing, thus resulting in the responsible democratization of Indian securities markets.
Kuldeep Thareja, Mitu Bhardwaj & Rasmeet Kohli are with the National Institute of Securities Markets. The views expressed in this article are personal.
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Updated: 26 Sep 2023, 08:35 PM IST