There are different definitions for “Penny Stocks,” but generally, they are stocks of companies with a small capitalization (not much money). Also, generally, they cost $10 or less per share. I have purchased many stocks for less than a dollar and made some good money on most of them.
Most investors shudder in fear over the idea of purchasing penny stocks. These small companies can be very unstable and their stocks quite volatile. It’s generally easier for a small business to go out of business than for a big business. Investors see penny stocks as very high risk with very low return.
They are absolutely correct about the high risk. They are quite mistaken about the low returns. Penny stocks, like any high-risk investment, contain the potential for very high gains. Much of what people believe and say about penny stocks is incorrect.
For example, over time, small cap companies and penny stocks outperform the blue chips by quite a margin. The reason for this is that the big blue chip companies tend to move very slowly, whether they are going up or down in price. It takes some pretty earthshaking news to move a large company stock in either direction.
It is believed that large cap stocks will move upward gradually over time and this is true most of the time. But they are also subject to the economy, the dollar, and what is happening in their sector. Right now, the stock market as a whole is in trouble. This is especially true of the financials and the housing market. But the entire stock market is at risk right now and many blue chips represent a higher risk than usual.
It may be a clich, but it is true that you have to look into the future and see where the movement is in different sectors. Whether you buy large cap or small cap stocks, you need to see what industries are likely to go up in the future and which might have some problems.
No stock and no company goes up all the time. This was one of the problems with the housing bubble. The greed-clouded eyes of investors and lenders led them to believe that housing would go up forever. That’s a bad bet for anyone in any sector. Prices of any stock go up and down, as does the entire stock market.
If you take as much care in choosing penny stocks, you will do just as well as you would if you buy expensive stocks like Google, Coca Cola, or McDonald’s; or better. The advantage of the penny stock over the higher priced blue chips is that you are risking less money on each stock.
Let’s say that you have $1,000 to invest in a stock. You could buy 5 shares of a stock costing $200. Or you could buy 1,000 shares of a stock costing $1. If your $200 shares go up $5, you have gained $25. If your penny stock goes up $0.05, you gain $50.
This is just a made up example, but it is true that your penny stock is likely to go up (or down) much more than your expensive blue chip. If you have chosen your penny stock carefully, you stand to make a lot more money in a shorter period than with expensive stocks.
My own portfolio is almost exclusively penny stocks. The most I ever paid for a stock was $150/share for 25 shares of iShares Silver Trust (SLV). The high cost was because you are buying the equivalent of 10 ounces of silver. Recently, they did a reverse split so that now you would pay $15/share for the equivalent of once ounce of silver. My 25 shares became 250 shares.
Even $15/share is high for me. Again, many of my stocks cost me less than a dollar. Some cost less than $0.25. Again using our example above, to double your money on a $200/share stock, it would have to gain $200. Even for big company, that’s a huge gain. A stock that costs $1 would have to go up $1 to double your money.
I sold one penny stock for a gain of 800% and others for more than 100%. My portfolio right now is battered and down but I’m not concerned about it. At its height, my entire portfolio was up 200% (including losses). Right now, with only two stocks in the green, my portfolio is up over 75%. This with almost exclusively penny stocks.
Penny stocks are one of the greatest kept secrets in the world. The big funds and other big stock buyers do not bother with penny stocks. It’s a good thing too because large buying of penny stocks would really cause huge swings in the price. This is why penny stocks are so volatile. The number of trades per day is usually small. One big buyer or seller can cause a big increase or decrease in the cost of the stock.
But, as with any other stock, if you examine the fundamentals of a company, see that they have good cash flow, low or no debt, good management, and a good product or service that demonstrates future income, it’s worth risking a few hundred dollars or more.
Because these stocks are so cheap, it’s relatively safe to risk $200 or so and search for a penny stock that looks solid. Some penny stock companies end up being attractive buyout companies for larger companies and that is another way to increase your profits. If you don’t want to risk any money, you can go to Yahoo, MSN, and many other money sites and create a portfolio where you can pretend to buy and sell stocks. You can test out some penny stocks with no risk at all. You can also “buy” some blue chips that you like and compare the difference yourself.
Happy investing!