ESMA shares its views on fractional shares as it calls for clarity
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The European Securities and Markets Authority (ESMA) has shared its views on fractional shares. The financial markets regulator for the European Union noted that the term “fractional shares” misled investors as they could not comprehend the nature of these financial instruments.
ESMA criticizes fractional shares
According to the regulator, “derivatives on a fraction of shares are” not the same as corporate shares, and companies should refrain from calling these instruments “fractional shares.” ESMA noted that companies should clarify to investors that these products are derivative products.
The regulator further noted that the information shared by businesses on fractional shares needed to be fair, clear, and not misleading. Firms should also share all information about the direct and indirect costs and additional charges related to these products.
“As derivatives on fractions of shares are not corporate shares, firms should not use the term fractional shares when referring to these instruments. ESMA would deem such use of the term misleading and therefore in breach of MiFID II requirements,” ESMA added.
The companies that offer these financial instruments should also be clear in revealing the direct and indirect expenses and fees linked with such products and services. These firms should also include structuring and the costs of offering fractional shares.
ESMA has also defined a fractional share as a financial instrument that allows investors to participate in a company’s performance using a tool that tracks the share price. Fractional shares have a low acquisition cost, the proportionate stock price of the underlying shares. The product allows investors to enjoy the financial benefits of dividend payouts. However, the product does not have voting privileges.
ESMA has also urged firms that want to trade these specific derivatives to have additional measures to protect retail investors. The firms should explain the nature of these products to their customers in detail.
Fractional shares gain traction among retail traders
Fractional shares have become increasingly popular in the retail market. The product targets investors that cannot afford to purchase the entire stock of a relatively expensive firm, and they can instead buy a part of the stock for the capital they have.
The popularity of fractional shares increased during the pandemic when retail trading was at its peak. At the time, trading apps offering these products were also gaining traction. Some of the US’s largest brokers, such as Fidelity Investments, started offering fractional shares in early 2020.
With time, the offering started gaining traction, and after a few months, it appeared on brokerage platforms such as Charles Schwab and Interactive Brokers. These firms started offering fractional shares to target retail traders flocking to Robinhood.
Robinhood’s popularity rapidly rose during the pandemic because of its commission-free trading services and the ease of trading on the app. The platform launched fractional shares trading during the pandemic, and in the following months, other brokerage platforms joined the trend to keep up with the competition.