Learning the Basics about Trading Penny Stocks

In case you are interested in the personal finance field and especially if you have done some research into starting to trade on the stock market, you have probably come across penny stocks as a trading option. You have also most probably encountered one of two very biased points of view on this particular market – those who are saying that penny stocks are devil’s work or those that are saying penny stocks are the easiest and the quickest way to become a millionaire.

Like so often, in reality, the truth is somewhere in between. Today, we will be giving a short introduction to penny stocks, an unbiased and factual introduction at that.

What are Penny Stocks?

There are quite a few definitions of penny stocks and depending on who you choose to believe, they will denote a different set of stocks. Most experts will agree that penny stocks have to fulfil two prerequisites in order to be called penny stocks. For one, a price of a single penny stock should not be more than $5. Secondly, penny stocks are mainly traded Over the Counter, while there are those that are also traded on exchanges. Most penny stocks will therefore trade on Pink Sheets, the OTC-QB and the OTC-QX.

Why you Need to be Careful

Unless you are reading scam websites whose only goal it is to get you to invest in penny stocks, you will read that they can be quite risky and this is absolutely true. Investing in penny stocks involves much more risk than investing in the more “traditional” stock market.

The first reason for this is that penny stock markets are much less monitored and regulated by independent bodies. Because of this, penny stocks often become part of various unsavory tactics, such as the “pump and dump” schemes.

In addition to this, penny stocks are much less liquid than regular stocks, meaning that you might find it difficult to find sellers or buyers for the penny stocks that you are looking to buy or sell. In short, you might have troubles selling or buying different penny stocks and this may cause you to lose money.

Finally, the vast majority of companies that are present on the penny stock market are “fragile”. They are often companies that are facing bankruptcy or who have only recently been founded. Because of this, there is a greater chance that a company you invested in will go under and you will lose your investment.

In short, penny stocks are risky.

Is There a Good Side to It?

While the penny stock market is definitely risky, there are also some good sides to it. If not, then it would not exist, quite logically. There are some very good reasons why people still invest in penny stocks.

For one, it requires much less money to start investing in penny stocks than in the more traditional stock market. Since they are much cheaper than traditional stocks, you can get your hands on a much richer stock portfolio with penny stocks.

The volatility (riskiness) of the market also ensures the possibility of making a relatively large return on your investment in a relatively short period. Perhaps the most example of this is Timothy Sykes, a penny stock investor who turned just over $10,000 into more than million and a half in just a few years. He later went on to give lectures at Harvard and teach courses for new penny stock traders.

If you Want to Trade

In case you are interested to start trading penny stocks, there are a few things to keep in mind. For one, you should learn as much theory as possible on penny stocks. There are plenty of reputable online sources of information and quite a few books on the subject. It would also be a good idea to first learn the ropes with a free trial account that many penny stock online brokerages offer.

You should also be extremely careful about the companies you invest in as finding the right penny stock is never an easy task. One thing to never believe is the online hype that is often generated artificially and which might be part of a pump and dump scheme of some kind. If you do not understand the industry and you cannot justify your decision to buy, do not buy. It is as simple as that.

Another very important thing to do, or more precisely not do, is investing the money that you cannot afford to lose. Penny stock market is so fickle and so unpredictable that you are never 100% safe from losing your money. Because of this, only invest the money that you can live without.

Finally, make sure that you are being active and that you are checking on your investments regularly, meaning daily. Penny stock market is volatile and if you are not careful, you may end up with significant losses.

Back to top