What are Penny Stocks?

Penny stocks are the Kardashians of the stock investing world. They seem sexy on the surface but once you scratch below the surface, an uglier side starts to emerge.

In penny stocks and the Kardashians, you’d best be on high alert before you get into them.

What are Penny Stocks?

Contrary to their name, penny stocks don’t necessarily trade for pennies. They are officially classified by the SEC as a company whose share price is trading at $5 or less.

Penny stocks are usually associated with small, newer companies and are often referred to as micro-cap stocks.

Where Can You Buy Them?

You can trade penny stocks with most of the common online brokers like Fidelity and Schwab, often with no cost trades.

They are mainly listed on the OTC Bulletin Board (OTCBB) or pink sheets. However, some are listed on the New York Stock Exchange (NYSE)

(I won’t bore you with the details, but basically stocks available on the OTCBB have much less stringent requirements than those listed on the major exchanges like the NYSE. And stocks available on the pink sheets have even lower requirements than those on the OTCBB.)

Volatility – The Blessing and Curse of Penny Stocks

Penny stocks are infamous for the volatility of their share prices. Which is good and bad.

It’s good cuz it means the potential returns/rewards can be jaw dropping. There are penny stocks that have gone up over 1000% in just a few weeks time. So it is possible to make a boatload of money very quickly with them.

But with higher rewards come higher risks. This can often lead to huge losses that’ll make you wanna curl up in a fetal position and cry yourself to sleep.

Investing in a penny stock, it’s quite possible you can lose your entire investment. And that’s just not likely when you invest in a large company like Microsoft or Wal-Mart.

Are Penny Stocks Inexpensive?

Many people are drawn in to penny stocks by their “cheap” price. They think a stock that trades for $0.10 or $.50 or whatever is inexpensive. And you can buy a ton of shares for little money.

And again, yes, that can set you up from mind blowing returns. But don’t just focus on the cheap share price and potential returns. More people than not take a beating on penny stocks cuz they don’t understand the downsides and don’t know what they’re doing.

The Downsides of Penny Stocks

One big risk with is that they are lightly traded. That could set you up for trouble if you want to sell.

If you wanna sell shares of Apple, you won’t have any issues finding a buyer for your shares. But with a penny stock, you may go to sell and find no one wants to buy them. Which means you’re stuck with shares you can’t unload and there won’t be a life boat in sight as you watch the share price sink faster than the Titanic.

Another risk is that they are subject to manipulation much more than larger companies. Pump and dump schemes are fairly common with penny stocks.

This is a scheme where some Jackazz hypes the stock (that they and/or their partners already own), making up BS claims about the rosy prospects of a small cap company. If they can get enough people to buy into their BS hype, it will push the stock price higher at which point Jackazz and Company will sell their shares for a hefty profit. Their sale will then cause the stock price to sink faster than a mob informant’s body in the Hudson River leaving the suckers who recently bought the stock on the hype with huge losses.

A few other issues to keep in mind when looking at penny stocks…

They have minimal reporting standards than stocks listed on the main stock exchanges. This means it’s harder to do your research on these companies and the info you find may not be reliable.

Also many, being newer companies, have a lack of history which makes it difficult for traders to judge its price.

The Bottom Line

Penny stocks are high risk/high reward investments. If you invest in penny, you should know how to limit your losses by using things like stop loss orders so you can exit the stock if it doesn’t go your way.

There’s definitely gold in them there hills. But you’d better know what you’re doing before you start throwing you money at penny stocks. They are not an investment for the faint of heart.