Penny stocks are stocks below $1 in value on the stock market as stated earlier. Although some penny stocks trade on large exchanges such as the New York Stock Exchange (NYSE) among other securities exchange worldwide, most penny stocks trade via over the counter (OTC) transactions. They offer an interesting, though high-risk, opportunity for investors. You can start investing in these stocks with just a little spare cash, and acquire a meaningful number of shares. The hope is that if the stock increases in value by just a few cents, you can sell and lock in a big percentage gain.
Transactions take place through the electronic OTC Bulletin Board (OTCBB) or through the privately-owned Pink Sheets. There is no trading floor for OTC transactions, and the quotations are also all done electronically.
In the past, penny stocks were considered any stocks that traded for less than one dollar per share. The U.S Securities and Exchange Commission (SEC) has modified the definition to include all shares trading below five dollars. The SEC is an independent federal government agency responsible for protecting investors as they maintain fair and orderly functioning of the securities markets.
Penny stocks are usually associated with small companies and trade infrequently meaning they have a lack of liquidity or ready buyers in the marketplace. As a result, investors may find it difficult to sell stock since there may not be any buyers at that time. Because of the low liquidity, investors might have difficulty finding a price that accurately reflects the market.
Due to their lack of liquidity, wide bid-ask spreads or price quotes, and small company sizes, penny stocks are generally considered highly speculative. In other words, investors could lose a sizable amount or all of their investments.
Most major investors stay away from penny stocks. However, even reputable investors will sometimes participate in the penny stock market.
Many of those who invest in penny stocks are attracted by the cheap price-per-stock and the potential for the stocks to gain enormous amounts of value in a short period of time.
“Get rich quick” schemes are as old as human civilization. Everybody would like to make a lot of money in a short period of time. Penny stocks are viewed as one way to get there.
It’s true: investing in the right penny stock could help you earn returns over 1,000%. However, there are some major risks with penny stocks.