While trading penny stocks can be a very profitable way to make money in the stock market, they are a high risk investment.
This risk is the reason many investors avoid them all together, however if we understand why penny stocks are risky we can use our judgment to formulate sound strategies to make money on these often overlooked stocks.
So let's examine a few of the factors that make them risky.
The OTC Market - Penny stocks are typically traded on the OTC market which has very little regulation or oversight.
This being the case, these markets are easy prey for people who wish to commit fraud.
In fact many times there is very little information on the companies traded here, such as financial statements, etc.
Fraud - As stated before the penny market is littered with fraud.
One example of this fraud is the "pump and dump" scheme.
This is where a stock is promoted with promises of future success in order to create interest and drive the price higher at which time the large shareholders sell their shares to the people that have bought into the promotion and the price collapses.
Another example of fraud is just an outright fake company that only exists on paper, and is not even real.
Bad Companies - Even if the company is legitimate the fact is that companies on the OTC market rarely make any money, in fact many of these companies will only be in business for a short time, making the chance for a long term investment slim to none.
High Volatility - Perhaps the biggest reason these stocks are risky is their high volatility.
It is not unusual for a penny stock to have a price change of more than 100% in one day.
It is ironic that this is also what makes penny stocks a great way to make money day trading.
While the bigger and more stable blue chip stocks can take months or even years to experience these kind of moves, penny stocks can make them overnight.
While it is true that penny stocks are poor long term investments, they can be great short term trades.
Fortunes are made everyday using these stocks, but a person thinking of taking this route must do the necessary research and learn about trading pennies before jumping in.
This risk is the reason many investors avoid them all together, however if we understand why penny stocks are risky we can use our judgment to formulate sound strategies to make money on these often overlooked stocks.
So let's examine a few of the factors that make them risky.
The OTC Market - Penny stocks are typically traded on the OTC market which has very little regulation or oversight.
This being the case, these markets are easy prey for people who wish to commit fraud.
In fact many times there is very little information on the companies traded here, such as financial statements, etc.
Fraud - As stated before the penny market is littered with fraud.
One example of this fraud is the "pump and dump" scheme.
This is where a stock is promoted with promises of future success in order to create interest and drive the price higher at which time the large shareholders sell their shares to the people that have bought into the promotion and the price collapses.
Another example of fraud is just an outright fake company that only exists on paper, and is not even real.
Bad Companies - Even if the company is legitimate the fact is that companies on the OTC market rarely make any money, in fact many of these companies will only be in business for a short time, making the chance for a long term investment slim to none.
High Volatility - Perhaps the biggest reason these stocks are risky is their high volatility.
It is not unusual for a penny stock to have a price change of more than 100% in one day.
It is ironic that this is also what makes penny stocks a great way to make money day trading.
While the bigger and more stable blue chip stocks can take months or even years to experience these kind of moves, penny stocks can make them overnight.
While it is true that penny stocks are poor long term investments, they can be great short term trades.
Fortunes are made everyday using these stocks, but a person thinking of taking this route must do the necessary research and learn about trading pennies before jumping in.
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