What are Penny Stocks?

By  //  October 18, 2019

A penny stock is a stock of a small company that costs less than $5 per share. The vast majority of penny stocks trade with what is known as OTC (over the counter) trades.

Even though you might think because of the name that a penny stock is one that is in literal pennies, it can be any share that’s under the value of $5.

In this article, we’re going to examine the history of penny stocks, as well as how penny stocks can help smaller companies to get themselves out there and to become more and more established. Find a guide to penny stocks on Timothy Sykes. 

The History Of Penny Stocks

The definition of penny stocks is most likely going to be quite different depending on who you ask. A lot of people confuse penny stocks with those stocks that do literally sell for pennies and don’t think that a $3 stock, for example, could ever be a penny stock. 

The phrase “penny stock” simply means any stock that trades at less than $5 per share, and typically not on major stock exchanges. Whilst some penny stocks may trade on major stock exchanges, the majority do not. 

A lot of companies that you’ll know to be massive blue-chip companies today once started off as a penny stock on a far smaller market.

Selling penny stocks can be massively helpful to smaller companies that are trying to gain some capital and become more established. 

What’s The Definition of Penny Stocks? 

In accordance with what is defined by the SEC, a penny stock is a share that is trading for under $5 and that does not trade on major/national exchanges. In the United Kingdom, a penny stock is known as a “penny share,” and is literally just that. Penny shares in the UK are those which can only be purchased for less than £1. 

Even though purchasing a penny stock or penny share will indeed buy you a share in your chosen company, they are not available on large-scale national stock exchanges.

There are a number of advantages and disadvantages of penny stocks.

A lot of penny stocks that have been in existence in the past have made for extremely bad investments, due to the fact that some/a lot of penny stocks are representative of companies that are already in an extremely poor financial position as a result of a series of bad decisions, as opposed to simply being a business that’s just starting out and needs the capital. 

Penny stocks have unfortunately over time, as a result of their known correlation with falling companies, become avoided and recognized as a risky investment for a lot of investors.

Whilst there are a lot of penny stocks on the market that it would not be advisable to put your money into, there’s also a lot out there that could make for great and potentially very lucrative investments. All you need to know is how to identify the bad from the good.

Why Can Penny Stocks Be Risky?

The majority of penny stocks represent a relatively high investment risk. This, however, could well be what draws a lot of potential investors towards them.

The beauty of penny stocks is that they offer a high potential return, for a pretty low initial investment. Whilst they can gain a lot of value in the coming time, they can also lose a lot – especially if the company were to enter liquidation or bankruptcy. 

A stock that’s extremely unpredictable either way like a penny stock is, is known as a volatile stock. Penny stocks, as well as those that invest in penny stocks, are often victim to the hype that can easily occur around a stock.

If there’s enough interest generated by whatever means for a particular penny stock, investors are far more likely to buy into it, even if they don’t know where all of the hype and excitement is coming from in a lot of cases. 

Another major risk that the business of trading penny stocks represents is liquidity, or more importantly, the lack of liquidity in the market.

Liquidity refers to the number and consistency of the shares that take place on a market within a typical trading day. Large national markets, for example, have very high liquidity since trades are taking place regularly. In a market that has high liquidity, it’s easy to sell shares as it is to buy shares.

However, selling shares in a market that has low liquidity can be a very difficult process indeed. Whilst you might not think of this beforehand, you might find yourself in a position that you want to sell the shares that you have just purchased very quickly, as a result of their change in value.

However, you might have a difficult job selling penny stocks quickly, since the liquidity of the market is very low. 

How Have Penny Stocks Established In Recent Years?

Ever since the emergence of the internet, penny stocks were given a new platform upon which they could be traded. Before the internet came around, penny stocks were traded via telephone and pink sheets. Even though a lot of the stocks offered just the same level of potential as they do now, a lot of people didn’t trade them at all. 

With the internet, however, trading penny stocks isn’t difficult at all. A large number of online brokerages now exist on the internet, on which investors can comfortably and quickly purchase stocks from their own home or office.

As a result of the internet surge of the 90s, a lot of investors entered the trading of penny stocks. Penny stocks offered and still do to investors, low trading rates, low initial risk, and the potential for a very high return.

Penny stocks are still heavily traded today – making money with them is very possible, all you need to know is how.