Tesla (NASDAQ: TSLA) has had a strong year so far, with its price surging by just over 50% since January. As a result of this growth streak, however, it's also one of the more expensive stocks, currently priced at just over $1,000 per share.
For many investors, that price tag is out of reach — but that doesn't mean you can't invest. With fractional shares, you can invest in Tesla (or any other expensive stock) without breaking the bank. In fact, it's possible to buy this pricey stock for as little as $1.
How do fractional shares work?
A company's stock price represents how much it costs to buy one full share of stock. But you don't necessarily need to buy a full share in order to start investing. With fractional shares, you can purchase a small part of a single share for a fraction of the price.
For example, say you want to invest in Tesla but can only afford to spend $100. If a full share of Tesla stock costs $1,000, you can buy one-tenth of a share for $100.
The best part about fractional shares is that you choose how much you want to pay. If you only have a few dollars to spare, you only have to invest a few dollars. Price doesn't have to hold you back from investing, and it's possible to buy even the most expensive stocks without breaking the bank.
Why fractional shares are a smart investing strategy
Because fractional shares make investing more affordable, it's easier to build a diversified portfolio on a budget — especially if you're just getting started in the stock market.
A diversified portfolio should include, at a minimum, 10 to 15 stocks from a variety of industries. However, it's wise to have at least 20 to 30 stocks to better limit your risk. If you're paying hundreds or even thousands of dollars per share, building a portfolio quickly becomes expensive.
With fractional shares, however, you can invest in 30 different stocks for as little as $30. Then once you have a strong core portfolio, you can start gradually increasing your position in each stock by buying more fractional shares.
This can be a less risky strategy than buying full shares of stock one at a time. If you only have $1,000 to invest and you spend it all on one share of Tesla, you have just one stock in your portfolio. If Tesla's price falls before you can afford to diversify, that could have a huge impact on your investments.
On the other hand, if you spread your $1,000 across a couple dozen stocks, your investments are more diversified. Now if Tesla's price drops, it won't have a drastic effect on your portfolio.
Things to consider before you buy fractional shares
One thing to keep in mind when investing in fractional shares is that they still require the same amount of research as if you were buying full shares of stock.
It can be tempting to buy riskier stocks when they're more affordable, but that can be dangerous. If you invest in a high-risk stock and it sinks immediately, you may only be out a few dollars. But if it does perform well, you might be tempted to invest more money.
Risky stocks can earn explosive returns, but those returns may not last long. If you continue investing more and more while the stock is booming, you could potentially lose a lot of money if the price suddenly plummets.
Even if you're only investing a few dollars, it's crucial to do your research before you buy. The best investments are the companies with solid underlying business fundamentals. These stocks may not make you a millionaire overnight, but you are more likely to see steady long-term growth.
Fractional shares can be a smart way to invest, especially if your budget is tight. With this strategy, it's easier to buy Tesla and other expensive stocks regardless of how much you can afford to spend, and you'll be on your way to building a strong portfolio.
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Katie Brockman has no position in any of the stocks mentioned. The Motley Fool owns and recommends Tesla. The Motley Fool has a disclosure policy.