Following the presence of the global coronavirus pandemic, the investors’ hope for stable stock markets has been halted, with most traders fearing the economic consequences of the epidemic.
It is for this reason that investors are looking for low-priced stock securities that will yield considerable returns, without necessarily spending a lot of money. Therefore penny shares are a suitable choice.
However, if you decide to invest in penny stocks in 2020, you must be acquainted with the basics of penny shares. This guide outlines what you should know about penny shares.
What are Penny Shares – Stocks?
The Securities and Exchange Commission (SEC) of the US defines penny shares as low-priced securities with a share price valuation below $5. Although there is no formality as to the definition of penny stocks in the UK, the shares are generally considered to trade below £1.
While some penny stocks can be traded in major stock exchanges, most of these securities are traded in the Over the Counter (OTC) Bulletin Boards. Typically, penny stocks are issued by small companies with little or no track record of past investments.
How Penny Stocks Work
There is no big difference in the way penny shares work compared to the popular blue-chip stocks. The success of a penny stock investment is totally dependent on the financial growth of the issuing company.
If the company shares decline in value, you exposed to a high risk of losing money in considerable amounts; the vice versa is also true. The advantage with penny stocks is that investors can acquire large share volumes with minimum capital, giving them a large share percentage into the selling company.
History shows that penny stock companies have the potential of growing spontaneously, and ultimately shifting into major exchanges. In the long term, therefore, penny stock investors stand a chance of making significant returns from their investment.
What are the Risks Associated with Penny Share Trading?
When you choose to trade penny stocks, you should be aware of the risks associated with these securities and adopt risk management strategies to mitigate them. Here is an outline of common risks linked to penny stocks.
Due to their unique structure, penny stocks are highly exposed to manipulation by scammers and fraudsters. For example, scammers can hype up interest in a specified penny stock over time.
Their aim is to have the stock price of these shares spike to high levels, after which the fraudsters sell the stocks at high profits. This form of manipulation is known as pump and dump, which investors should avoid at all costs.
• High Volatility
Penny stocks are known to be highly volatile, following the regular fluctuation of the penny share prices over a given period.
The rapid price movements in penny stocks can result in huge losses, especially when there is a downward fluctuation.
• Low Liquidity
Penny stocks are always plagued by low liquidity. This means that there are extremely high chances of experiencing infrequent penny stock trades, making it difficult for you to sell or buy penny shares.
Investors may end up holding penny stocks that are ultimately worthless.
• Lack of Standards
Unlike the typical stocks, there are no standards that regulate the reporting of penny stocks. This is the primary reason why penny share dealing is open to manipulation and unscrupulous brokerage services.
• Lack of Historical Information
Most of the penny stock companies have little or even no track records, making it difficult for investors to establish the value of a company.
For instance, there is always a trend for a small company to develop a new product or service. Such offerings can be quite risky and often subject to failure. Unfortunately, investors cannot establish this information, which could result in losses.
Where to Buy Penny Stocks
Like every other security, investors can buy penny shares through any brokerage or trading platform available in the market. Consider researching your broker before trading with them, as some trading platforms are known to be unscrupulous.
Disclaimer: This article is not investment advice or an investment recommendation and should not be considered as such. The information above is not an invitation to trade and it does not guarantee or predict future performance. The investor is solely responsible for the risk of their decisions. The analysis and commentary presented do not include any consideration of your personal investment objectives, financial circumstances or needs.
Risk Warning: Our products are traded on margin and carry a high level of risk and it is possible to lose all your capital. These products may not be suitable for everyone and you should ensure that you understand the risks involved.