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New investors are often confused about the term penny stocks and the
opportunities and risks associated with investing in them. This article will
help clear up some of the confusion.
What are penny stocks?
Penny stocks are securities sold by new and/or small companies that are seeking
capital for startup, operations or expansion. These securities generally sell
for anywhere between a fraction of a penny up to $5. By their very nature,
investing in penny stocks is a risky proposition.
Does that mean I shouldn't invest in penny stocks?
No, it simply means that you need to understand the pitfalls of penny stock
investing and go about it in the right way.
What are the pitfalls?
Companies that sell penny stock securities are almost always one or more of the
following:
- New
- Very small
- Under-funded
- In a very competitive market
If a company falls into just one of the above categories it makes purchasing its
shares risky. That's why if you invest in penny stocks you are virtually
guaranteed to lose some or even all of your money on at least some of your
individual investments.
Then why in the world would anyone in their right mind
invest in penny stocks?
Because doing so can result in huge overall long-term gains if you know the
proper way to make these investments. While you will most likely actually lose
money on most of your individual investments, it only takes a handful of "winners" to make
you a very wealthy person.
For example, imagine buying 500 shares of a company at $.02/share and
subsequently watching the stock price rise over time to $30/share! Your $10
investment would now be worth a whopping $15,000. Although rare, scenarios like
this can and do take place!
So how do I maximize my chances for overall success?
There are several things you can do to give yourself the best chance of making
it big in penny stocks:
- Carefully analyze each and every company you consider investing in:
- Do the principals have a proven track-record of building other successful
companies?
- Does the company do business in a growing market?
- Does it sell innovative, unique and patented products or services?
- Is its business model a sound one that makes sense to you as an investor?
If you cannot answer yes to each and every one of these questions, don't invest
in that company.
- Don't invest a large portion of your available money in one company,
regardless of how much you like it or how great it looks. The key to successful
investing is diversification, and that goes double for investing in penny
stocks!
Remember, these are riskier-than-normal investments by their very nature and you
WILL lose all of your money on some of them. Don't make the mistake of putting
yourself into a position where you can lose the bulk of your investment capital
when a single company fails.
- Never invest money in penny stocks that you simply cannot afford to lose.
Enough said on that one.
- Be prepared psychologically for the downs - there will be a lot more of them
than ups - guaranteed.
- Set aside only a small portion of your overall investment budget for
investing in penny stocks. 5% is good...10% should be the absolute maximum even
if you have an iron stomach when it comes to investment risk.
Keep in mind that it might take years (if ever) for one or more of your penny
stocks to hit the big time. In the meantime, you'll need plenty of less risky
investments working for you as you build a secure retirement for yourself and
your family.
Does following the advice in this article guarantee
success with penny stock investing?
In the investment world, absolutely nothing is guaranteed. But if you stick to
these guidelines your overall losses will be minimized while giving yourself the
best chance of 'hitting it big" eventually.
About the Author:
Rick Rouse is the owner of RLROUSE Directory & Informational Services.
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