The concept behind buying penny stocks revolves around purchasing a quality company for pennies on the dollar in the hopes it will skyrocket in the near future. But assuming it is not an initial public offering, the savvy investor has to ask why the stock is selling for pennies in the first place. Before investing in this industry, study the company as if it were any other investment, and be wary of people too willing to offer penny stock tips.
Define Penny
According to the SEC (Securities and Exchange Commission,) the definition of a penny stock is one with a ticker price of five dollars or less. Among brokers, definitions may vary. Penny stocks are often lumped together with micro caps, which are defined as any security with a market cap between $50 million and $300 million. In addition to this, any security being traded on the OTCBB (over the counter) is also put into this category.
Risk
Buying any security after a thorough examination of their business carries its fair share of risks. Buying micro caps can be even riskier. This market is subject to minimal regulations and the companies traded do not have to file with the SEC. This means potential investors are vulnerable to scams and dishonest information. The stock may be cheap, but an investor will have to work harder to uncover information about the company to make an educated decision.
Lack of disclosure is one risk which makes it difficult to follow up on penny stock tips. Another is the absence of performance standards to stay listed on the respective exchange. Because of this, companies which have been de-listed from major exchanges will often find a home on the OTCBB and micro cap exchanges.
Research
Investors should be able to check a stock’s past performance, or at least recent past performance to develop a benchmark for future purchases. An under $5 dollar security is either failing financially or is so new there is no history to dig up. In the first instance, the buyer is purchasing declining securities; or at least those with a high potential to lose value. In the second, the investor will have to speak with management directly to go beyond the prospectus and initial offering.
Buying and Selling
A stock with a low initial public offering price or whose parent company is facing bankruptcy will be hard to get rid of. The trader who purchases shares only to find out they have made a mistake in judgment may have to drop their price until they find a buyer. These problems reflect a low level of trading action (liquidity) which allows investors to manipulate a stock’s activity.
Given the above considerations, the potential for penny stock tips to come to profitable fruition is low. However, this could be said of shares on major exchanges as well. While there may be some good values in this market, a smart investor will want to focus the majority of their energy finding values in a more regulated environment.
Looking for Something? Search here:
(examples: auto, banking, college, credit cards, debt, frugality, insurance, investing, loans etc.)
