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Sorry, Cheap Stocks Aren't the Best Stocks. Here's Why

By Christy Bieber – Aug 17, 2020 at 4:41PM

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Fractional shares make even the highest-priced companies affordable.

For some investors, especially those with limited funds, looking for stocks with the lowest share price may be tempting. After all, if a stock has a low price per share, you can buy more of it. But just because a stock appears to be cheap doesn't mean it's a good buy. In fact, some of the most expensive stocks in terms of price-per-share can be way better investments than almost any penny stocks, which have very low share prices but come with outsize risk.

And while it may have made sense in the past for investors to limit their purchases to companies with low share prices if they didn't have much money to put into the market, that's no longer the case. In fact, rather than looking for cheap stocks, you should look for companies you believe will perform well over time regardless of the price. You can do that thanks to fractional shares.

Man looking at stock charts on computer.

Image source: Getty Images.

You're no longer limited by a stock's price

The first thing to remember when looking for stocks is that the share price shouldn't matter to you; what matter are the risk and the potential for growth. A stock that costs $1 per share is cheap to purchase, but it's not a very good buy if the company is on the verge of insolvency and has no plans to fix its financial problems. On the other hand, a stock that costs $5,000 a share is "cheap" in terms of presenting a great value if there's solid reason to believe shares may be worth $10,000 next year. 

Many investors used to be limited by the size of their bankrolls to buying companies with low-priced shares simply because brokerages required you to buy at least one full share. That's not the case anymore because a growing number of brokers allow you to buy fractional shares.

These are just what they sound like: fractions of full shares (in some cases as low as 0.001 of a share). Many big-name brokers have opened the door to buying these partial shares through a process called "dollar-based investing." You specify how much to invest in a company and you'll get whatever part of a share your cash can buy. So if you want to buy Tesla even though it's trading at $1,650 a share and you only have $20, you can become the proud owner of 0.0121 of a share. 

It doesn't matter that you're purchasing such a small stake; if the stock price rises, your percentage gains will be the same as any other investors' are. But, thanks to fractional shares, you won't have to be restricted to looking for companies with low share prices, such as the untested NIO, if you want to invest in an electric vehicle maker. You'll have the chance to buy the industry leader with the higher per-share price if you think it presents a better balance between potential risk and possible gains. 

How to pick companies to invest in

Since you're no longer limited by your pocketbook, you have a vast pool of potential investments. To find the right ones, you'll want to consider factors including:

It can take time to research which stocks to buy, especially when you don't have to restrict yourself to stocks you can afford to buy one or more shares of. But if you put in the work, learn how to make informed choices, and invest for the long term, your efforts can often pay off in the end. 

Christy Bieber has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Tesla. The Motley Fool has a disclosure policy.

Stocks Mentioned

Tesla Stock Quote
Tesla
TSLA
$194.86 (0.08%) $0.16
Nio Stock Quote
Nio
NIO
$13.13 (8.60%) $1.04

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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