There are so many misconceptions about penny stocks, and there is also a lot of misinformation floating around about them.
Penny stocks can be a great investment opportunity, but there are some things to keep in mind beforehand. The following are just the basics of what people should know if they’re completely new to penny stocks.
What Are Penny Stocks?
To start simply, what are penny stocks? Penny stocks are usually considered by the SEC to be anything that’s less than $5 a share.
Some stocks trade for less than $5 on the NASDAQ and the NYSE, but these aren’t usually considered penny stocks. In the past penny stocks traded for less than $1 per share, but that’s since been changed by the SEC.
High Risk Tolerance
Penny stock trading may not be for everyone, but that doesn’t mean that it doesn’t have value. What investors should know going in is that they need to be willing to accept a high level of volatility.
There can be significantly more reward with penny stocks, but you also have to tolerate more risk. This doesn’t mean it should be an instant turnoff to invest in penny stocks, but instead just that you should be prepared.
Along with being willing to accept the risk, it is important to realize it’s not a get rich quick scheme. So many investors go into thinking it is. They don’t bother to learn the basics, they’re not sure what they’re doing, and they’re sorely disappointed when their small investment doesn’t turn into big gains in a short period.
Nothing Is Fool-Proof
There is no safeguard that you’re going to be able to protect yourself against losses when it comes to penny stocks, but when you think about it, that’s no different than any other investment.
Yes, some may be safer and some riskier, but there’s always the potential that you may endure losses. With that being said, you can be smart and strategic when you’re picking stocks.
Red flags when it comes to penny stocks can include insider ownership that seems on the high side, and a lot of assets but not a lot of revenue. You can also check into things and see if there have been any trading suspensions issued by the SEC.
As a side note, fraud is absolutely possible with penny stock trading, but again this should be a consideration baked into your strategy.
There Are Rules
Finally, because it is risky and very speculative, a lot of people think there are no regulatory rules in place for penny stocks, which isn’t true. Penny stock trading is regulated by the Financial Industry Regulatory Authority and the SEC, and there are finite rules in place to protect investors.
Just one example is the requirement that a broker-dealer has to provide a disclosure to the investor. This can highlight some of the specific risks of investing in penny stocks, rights and what can be done if fraud does take place. Investors should take the time to go over this carefully.