When we think about trading stocks, it is usually the big money players that come to mind, while not that much attention is paid to the “little guys.” Penny stocks are those stocks that are available to trade carrying a value that is less than $5 per share.
Penny stock is the term used to describe the stock of small companies. Now, although there are only a few penny stocks that are traded through the larger exchanges, such as the New York Stock Exchange (NYSE), it does not mean that there is no money to be made off them. On the contrary, penny stocks can be traded for some real profits, especially over the long term.
Penny stocks are created by smaller companies, or those just starting out, as a means of raising capital for growing the business. They are created through an IPO (Initial Public Offering), and they must be registered through a registration statement filed with the SEC (Securities and Exchange Commission).
Companies can choose to make a second, additional market offering if more capital is needed. This, however, does dilute the existing shares while increasing its access to capital and widening its pool of investors.
Yes, penny stocks are volatile, and with that, there are some cautions that investors can make to reduce the downside risks involved.
Due diligence is one of them. When investing in penny stocks, investors should take the time to carefully read the company financials to ensure that the company is actually financially sound to begin with.
A stock screener penny stocks are a valuable tool to help track and manage the inevitable fluctuations in price, as well as to help find the right stock that fits an investor's methodologies.
Finding a reputable broker is one way to avoid the plethora of penny stock scams that are around these days, usually initiated through emails and cold calls to buy stock. A reliable broker will be able to provide an investor with quality research that can back up any investment claims
Never invest more money than you can afford to lose. Penny stocks are, more often than not, a speculative investment, and as such, they do come with a higher risk on your investment.
Avoid falling into the low-price fallacy, painting the picture that low-price stocks and securities are “cheaper” than their higher-priced counterparts.
Keep in mind that although there is the opportunity to make large gains through penny stocks, it is equally true that one stands to possibly incur large losses as well.
Penny stocks are shares that offer investors the opportunity to make large gains but can also swing to force large losses. As such, they should be traded with caution and consideration. Overlooking these important aspects could be detrimental to the overall health of an investor's financial future.