Penny Stocks: Low price, high volatility

Asset classes

Penny Stock
  • Penny stocks are stocks that trade at a very low price.
  • A penny stock often lists on smaller stock exchanges.
  • They also trade through Over The Counter (OTC).

What are penny stocks?

Penny stocks are stocks that trade at a very low price (usually for less that $5 per share). They have lowest market capitalization, and are mostly liquid. Penny stocks are also usually listed on smaller stock exchanges. They are also traded through over the counter (OTC) transactions via the electronics OTC Bulletin Board (OTCBB) or through privately owned OTC market groups. They are attractive because they have the potential to turn small investments into big fortunes through huge profits. At the same time, penny stock trading also comes with the highest degree of risk because of the following reasons:

  • large bid-ask spread
  • limited shareholders
  • and very limited disclosure of information

Previously, traders considered a stock valued less than one dollar as a penny stock but now the US Securities and Exchange Commission has modified the definition. Now every stock traded below $5 falls as a penny stock. Penny stocks generally have very limited liquidity because these are stocks of small companies and do not have ready buyers.

Investing in penny stocks

Investing in penny stocks is a risky move. Many companies with penny stock are highly volatile that may cause huge losses for the penny stock traders. However, investing in low cap stocks can prove very advantageous if traders know what to look for. Traders must look for the following characteristics of a company before investing in penny stocks of that company.

  • The company has a viable strategy at place to grow and lists on the stock exchange. Penny stock companies don’t want to stay put rather they want to grow and with that objective, they have long-term plans. Traders should analyze those objectives and a strategy explaining how company will achieve those objectives.
  • The company needs funds to develop or expand its business. If so, it may be a good opportunity for investing in penny stocks of that company.
  • The company needs assets and cash. Serious companies do not liquidate future viability to make their creditors happy rather they try to raise through other possible ways.

Penny stock trading

Like any other share trading, traders can start penny stock trading through their normal stockbroker regardless of whether the company is listed or not. There are many possible ways of kickstarting penny stock trading.

  • Traders who don’t have a fortune for trading can also choose the option of cheap stocks listed on big stock exchanges like New York Stock Exchange (NYSE). Those companies are not typically considered penny stocks but they are good for traders who don’t want extra risk in trading. They may not give traders big profits as sometimes a penny stock gives but they are more reliable and less risky option.
  • Traders can look for penny stocks on OTCBB that maintains listing requirements. However, traders should look for the viability of the penny stock options before initiating penny stock trading. Moreover, it is important to note that OTCBB is quotation unlike Pink Sheets that is just a quotation publisher. So, OTCBB is the best option while the Pink Sheets is risky for penny stock trading.

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