For seasoned traders, Penny Stocks is not a new term. For those new to trading, this article shall act as a quick guide to what these stocks are, and what factors you need to take care of while investing in them. Let us get started!
As the name suggests, Penny stocks, in the earlier days, was the term used to designate stocks that traded for less than a dollar. Hence the name ‘Penny.’ Though, over the time, the definition has changed. Currently, as per the Securities and Exchange Commission (SEC), these stocks are the ones that trade for less than five dollars in the USA or less than 1 Pound Sterling in the UK.
These are usually categorized as the ‘Microcap’ stocks whose market capitalization typically lies between $50 million to $300 million. This, however, might vary a bit in different countries.
Penny Stocks and the Major Exchanges
Most penny stocks are not listed on the major trade exchanges, such as the NASDAQ. NASDAQ stocks attract many market makers and a plethora of investors, which result in high liquidity. This means it’s easy to buy and sell shares anytime the exchanges are open.
Alternatively, penny stocks trade on less regulated exchanges such as the OTC Markets. Additionally, these commonly highly illiquid shares engage few investors and even less market makers. Companies trading on OTC Markets adhere to minimum exchange listing mandates, thereby functioning free of strict regulatory standards.
Are Penny Stocks for You?
Penny stocks are suited to investors with a ‘high-risk’ appetite. Since these stocks are highly volatile and speculative, the result is either extremely high reward or pure loss.
Tips to Trade Penny Stocks
Here are some pointers for successfully trading penny stocks.
- Review your willingness to invest your time into learning this investment strategy.
- Consider your ability to handle stress. Winning and losing brings adrenaline rushes.
- Be available to monitor the market daily to protect & grow your investment capital.
- Confirm your stock broker allows access to trade penny stocks and learn about their associated trading restrictions. Some brokers require the buying of penny stocks over the phone, even with internet based platforms.
- Monitor broker trade execution times. Some brokers interact with fast market makers. There are times when literally seconds define the difference between winning and losing trades during a momentum shift.
- Research the prospective stock charts with technical analysis tools.
- Read company news releases.
- Study the company’s business model, founders history, past successes, etc. Therefore, if you can’t find solid background information, the company could be sham.
- Join various penny stock lists. Then monitor their successes before deciding to follow their advice.
- Use stop loss and breakout alerts on your trades.
- Only use 10% of your allotted investment capital per trade to avoid losing your entire investment in one trade.
- Don’t get discouraged with small losses. It’s better to preserve the capital and keep refining your trading ability.
- Consider keeping part of your portfolio in cash. In other words, don’t trade just to trade. Make sure you have a winning prospect.
- If you are completely new, invest your time to paper trade first before putting your real money at risk.