Not All Fractions Are Created Equal: How Fractional Shares Can Be A Game-Changer For Brokers

As retail traders continue to exert their influence on the markets, the brokerage landscape is turning ever more competitive. In some ways, what we’re seeing is an accessibility arms race, where the offering of exchange-traded securities and derivatives is increasingly being tailored to beginners and smaller investors.  

The idea is to make access to these products cheaper, easier, and thus to allow investors from all walks of life to gain exposure to these markets. Zero commissions were previously one of the frontiers of the battle between retail trading venues, however, today fractional and notional trading is very much the front line. 

Obstacles to Small Investors 

The indivisibility of shares has always been a stubborn barrier to entry for retail traders, and it’s becoming more so as the stock prices of mega-companies that are most popular among them continue to rise.  

Currently, a share of Tesla stock is trading for just under $197, while Meta shares are going for $174, and Apple for $151. Without the ability to allocate fractional amounts, the above prices represent the minimum investment amount of 1 share for someone seeking exposure to any of these names.   

This is problematic as it places diversification out of the reach of smaller investors who can’t afford to purchase a selection of different names outright. This is exacerbated by the fact that these securities become even more inaccessible during bull markets, precisely when interest in share-buying tends to peak. Tesla stock reached a high of over $400 in November of 2021, Meta over $380, and Apple over $180. 

The ability to invest fractional amounts in an affordable manner solves the above issue. It levels the playing field by allowing a far wider base of investors to gain a share in the wealth created by these and other iconic companies. For example, a broker offering shares in 0.1 increments can allow someone to purchase a tenth of a share in each of the above companies for just over $50 ($19.70 + $17.40 + $15.10 = $52.20).  

This enables an investor to allocate a small amount to each company every month, or in the case of notional trading, they can dollar-cost average into their chosen names on a monthly basis by just splitting that $50 equally between each stock. This is why fractional shares are such a big deal. They’re the single most important thing brokers can do to catalyze the growing interest in investing among the general public, as well as encouraging new demographics to start participating in these markets.  

Fractional Order Routing

As with all things, the devil in the details. The way in which fractional shares offerings are implemented by brokers directly translates to how competitive they can be, as well as to what degree they can appeal to investor preferences. 

A common approach to supporting fractional trading is known as “route as received.” In this model, when a broker receives a fractional order, they simply route it directly to the counterparty and everything is handled on their end. This is the simplest approach as it means that the brokerage doesn’t have to concern itself with any of the technological and risk management logistics involved in holding and managing fractional inventories.   

On the other hand, it means that the brokerage can only implement fractional trades on the assets offered by its executing venue, which can be limited. There’s also the issue of fees to consider, which can make the trading of fractional shares less favorable when the end client is investing small amounts. Both of the above mean that brokers offering fractional trades on a wider selection of names, and at more affordable prices, will enjoy a competitive advantage in an already highly competitive segment.  

Internal Fractional Inventory 

 The other approach is for the broker to manage their own fractional inventory internally. In this model, the broker keeps a small inventory of shares on its books for the purposes of netting-off incoming fractional orders.  

A fractional rounding algorithm is employed to perform this function, so that when a new order comes in that requires fractions of shares, these can be allocated directly from internal inventory. In the case of the inventory being depleted, an order that’s been rounded-up to the nearest whole number is forwarded to the broker’s counterparty. When this order is filled, the client order quantity is distributed to the customer, while the remaining fractional quantity is placed in the broker’s inventory.   

In this way, the broker only has to keep a relatively small amount of shares on its books, and with automated position closure protocols in place, it can ensure that its exposure to any given stock will never exceed a predefined amount before those excess shares are automatically liquidated.  

Pre-allocated block orders can also be used to place large group orders for a brokerage’s customers that can include whole shares, fractions, and notional amounts, with an order management system in place to allocate the correct qualities to relevant customers. The approach may seem a great deal more complex on the surface, but modern brokerage platforms are more than up to the task, allowing brokers to take control of their offerings, appeal to a wider client base, increase volumes, and generate revenues from commissions or fees depending on the business model.

Introducing DXtrade XT  

DXtrade XT is Devexperts flagship multi-asset trading platform for brokers offering exchange-traded securities and derivatives. It includes a web-based trading portal and native iOS and Android mobile applications. The platform features a fractional order management system with support for both fractional quantities and notional amounts, and comes packaged with a suite of broker administration tools.   

Fully branded with company logos and colors, DXtrade XT is easy to integrate with any existing brokerage architecture and comes out-of-the-box with market data and news provision integrations. Maintained and supported by Devexperts around the clock, it has everything a broker requires to start their own in-house fractional shares offering and management thereof. 

It looks pretty sweet, too. Get in touch to start the conversation about what it can do for your business. Or get onto your broker and request that they integrate it!

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This post was authored by an external contributor and does not represent Benzinga's opinions and has not been edited for content.