Part ownership

Allowing fractional shares will benefit retail investors

The Union Ministry of Corporate Affairs (MCA) and the Securities and Exchange Board of India (Sebi) are said to be discussing the issuance and ownership of fractional shares. While this is not permitted in India, it has become popular with retail investors in the United States, where the concept was borrowed from cryptocurrency trading, where a hundred-millionth of a bitcoin (1 “Satoshi”) can be traded. The International Financial Services Centres Authority (Ifsca), at Gujarat International Finance Tec-City (GIFT), has also experimented with fractions of shares in its “sandbox” but these are dollar-denominated.

Sebi and the MCA are looking only at the possibility of fractional shares with new issues though this concept could also be useful with mergers, where fractional share-swap ratios have to be rounded off at the moment. It would require very careful attention to detail to work out schemes for fractional shares. It would need changes in the relevant company laws, Sebi regulations, the laws pertaining to nomination and inheritance, and an update of the tax regime. It would be desirable to go to this trouble since it would make asset allocation easier for individual investors and it would also impart liquidity to high-priced shares without forcing companies to carry out stock splits or issue bonuses. In turn, that would enable household savings to be more easily deployed in equities.

Systematic financial planning for individuals involves decisions about asset allocation and portfolio design. Investments need to be split between classes and between different sectors. The allocations and portfolio weighting also must be reviewed and rebalanced at regular intervals. This is to ensure that a healthy asset allocation includes some proportion of equity which is performing through an entire business cycle and the debt provides stability of return. High-priced or very high-priced shares skew the portfolio weighting sharply in one direction and make rebalancing difficult. If an individual wishes to hold Rs 10,000 of exposure to the market leader in steel, for instance, she could buy 75 shares of Tata Steel but a similar exposure in automobiles is difficult because a single share of Maruti costs Rs 10,375. In tyres, one of the market leaders is MRF and that share is trading above Rs 1,08,000!

Imparting liquidity to such high-priced shares is currently possible only by carrying out a stock split, offering a bonus, or a combination of these two. In a stock split, the company has to formally change the face value of a share. In a bonus, it has to capitalise the reserves. If fractional trading is allowed, neither of the two may be necessary. Fractional shares solve the problems of asset allocation though the proposal that the MCA is considering is only to be applicable to new issuances. Assuming that individuals are allowed to hold fractions of a share, to split dividends, if any, and accept any subsequent stock splits in that same fractional ratio, retail investors would find it much easier to construct broad portfolios without being forced to commit very large capital. Small-case providers would also find it easier potentially to expand their coverage of sectors. This would result in better price discovery and more liquidity in high-priced shares. The devil would be in the detail if the MCA and Sebi do go ahead with a clearance for fractional ownership and trading. But this is a welcome proposal in theory and it would certainly be of benefit to retail investors.