As the name suggests, penny stocks are stocks that trade for a penny, i.e. a very small amount. Penny stocks in India can have market value below INR 10. In Western markets, stocks below $5 are called penny stocks. They are also known as risky stocks. These stocks are highly speculative in nature and are considered highly risky as they lack liquidity, small number of shareholders, large bid-ask spreads and limited disclosure of information.
Now that you are familiar with the definition of penny stock, let’s take a look at some basic points that one should know and understand before trading.
Perfect for Novices If you are just starting out and getting caught up on trading,
Penny stocks would be a good bet. They provide a better level of freedom to experiment. Hence, you get to learn the ins and outs of trading easily. Considering that the prices of these stocks are low, you may not have to invest much to start trading. This also keeps your losses to a minimum. To get started, you will only need a trading account and a small amount.
Creating High Returns Contrary to the prevailing perspective,
Not all penny stocks fail. There are many companies which are operating with adequate financial and good growth potential. You have to identify these firms precisely and invest in them to generate high returns. However, keep in mind that you may need to hold the investment for a longer period for substantial returns.
When trading No Entry Barrier penny stocks,
You won’t need much to get started. Mostly, price movements with respect to penny stocks are speculative and do not follow a methodology of technical analysis. That way, if you’re just entering, it would be a perfect choice. Neither will you need extensive knowledge nor any certification.
Low Liquidity Stocks Given that these stocks have a low market capitalization,
They are not often traded on the stock market. Due to low business volume, you may find it challenging to find both sellers and buyers. However, this problem can be overcome by holding the shares for a longer period. In addition, you can use a staggered approach to buy or sell shares to exit or accumulate.
How to choose penny stock?
Research idea about the company Investment
Invest in only 2-3 stocks
For short term schemes
Reasons to Invest in Penny Stocks
Penny stocks can easily be considered a miss or hit security. The companies that issue them can grow into large organizations and generate above average returns or slide down and incur losses. Despite all such pressures, penny stocks should be included in the portfolio. Here are some reasons to justify this statement.
Growth Potential Most of these stocks have potential to grow into a multibagger. It simply means that these are the stocks that earn a lot of investment amount. For example, some security has received twice its investment amount; this would be known as a double bagger. And, if the return is ten times the investment value, it is known as a ten bagger. Including these in your portfolio can increase your return potential exponentially. There could be a possibility that your investment stocks may also outperform Mid Cap Funds. However, before choosing one, a thorough research should be done.
Cheap in nature Investing in these stocks is comparatively cheap. Thus, you can invest without losing a major part of your investment. Allocating a small portion of your portfolio to buy the best penny stocks will give you more results.
Risks Associated with Penny Stocks.
Considering the scale of the companies offering such stocks, they can be prone to high risk. Such stocks mainly depend on the market conditions to move in terms of value. Along with the basic risk factors, there are a few other things that might get you under the radar with penny stocks.
Restricted amount of information Given that companies issuing penny stocks are startups,
There would be a lack of information regarding financial soundness, growth potential, past performance and more. People can invest half-heatedly. Hence, one should avoid doing thorough research before investing.
Scams In financial history, penny stock scams are anything but common.
Scammers and organizations buy penny stocks in huge quantities, causing inflation, which attracts other investors to follow suit. Once a sufficient number of buyers are invested in the shares, such scammers and organizations dump the shares. This results in an immediate reduction in value, followed by large losses.
Conclusion
While for most people, penny stocks can be a good investment option, they carry a certain amount of risk, similar to every equity type. At times, the volatility in the prices of these shares can be unpredictable; Thus, increasing the risk factor. However, these risks can be easily mitigated if you do your research and choose the right penny stocks. Thus, make sure that you do not shy away from doing extensive technical and fundamental research.
