Penny Stocks: The Advantages and Disadvantages of Investing in Them

penny stock

Investors have a mixed relationship with penny stocks. From afar, penny stocks look like a good investment—who doesn’t want to trade stocks quickly so you can make money just as fast?—but these stocks also pose several risks. However, as with everything on the stock market, to each their own. Penny stocks are speculative; and yet, millions continue to trade them.

In this article, we will look at the pros and cons of investing in penny stocks.

Pros and Cons of Penny Stocks

According to the Securities and Exchange Commission (SEC), a penny stock is a security issued by a small-cap company that trades on the market at less than $5 per share. Knowing this, we can see where these type of stocks get their name from: it’s because they are cheap.

For the most part, penny stocks are quoted over-the-counter, such as on the OTC Link and the OTC Bulletin Board. Some, however, trade on the NYSE, such as Golden Star Resources (NYSE:GSS).

The Advantages

There are several advantages to investing in penny stocks. Perhaps the most notable advantage, however, is that the Per Share Price of these stocks is low. Some prefer these stocks because it’s easy for the public to purchase them; others prefer them because they move up at quicker intervals. So while short term investing can be risky, and is generally better-suited to seasoned investors who understand the market, moving up in quicker intervals means individuals can make money in a short amount of time with these stocks.

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If you’re interested in penny stocks, then that’s great. Any type of investment can be risky, but as we’ve seen, penny stocks do have their advantages. Just know that if you intend to make a profit from investing in them, there are a few skills you’re going to need to acquire.

Skills to Have When Investing in Penny Stocks

When investing in these types of stocks, you have to have patience. Penny stocks often fluctuate, so you need to be patient as well as smart, making sure to gather as much information as you can about the stock and company before putting your money into its basket. When starting out with penny stocks, consider investing a reduced amount of money. Once you have more experience and know how to choose the correct broker, you can bump up this investment.

So far in this article, we’ve only discussed the advantages of penny stocks. Don’t let this fool you; there are a handful of disadvantages when it comes to these stocks. Some even say to avoid buying these stocks in general because these disadvantages are so severe.

Here are a few.

The Disadvantages

Penny stocks investing is also referred to as high risk investing. And that has a lot to do with the fact that it’s easy to purchase these stocks but selling them back is a different story. As a result, many consider the low liquidity of penny stocks to be one of their major disadvantages.

Just as low liquidity plays a negative role in penny stocks, so does their lack of history. Sometimes, a company recognized as a penny stock is a startup or one nearing bankruptcy. If it’s the latter, the chances of losing your investment increases. And when the company is newly formed, investors can’t look at their track record to determine the stock’s potential. Some also worry about the fact that penny stocks often trade on the OTC and pink sheets. When doing so, stocks don’t have to fulfill minimum standard requirements to keep trading on the exchange. While this might not sound like a big deal to some, it is: minimum standards are often thought of as a safety cushion for investors.

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Takeaway

Penny stocks are not the only type of investment that has pros and cons. But it is one that many consider a risk because the outcome of investing in them can be so vast. While penny stocks have a low price and offer small companies access to public funding, they do lack a liquid market, have limited information on the underlying company, and have a high probability of fraud. If the latter doesn’t scare you, the most important thing to do is understand what you’re getting involved in. And if you’re an inexperienced investor, either avoid penny stocks or take the time to learn the ropes before making them a part of your investment portfolio.

Featured image: DepositPhotos © aremafoto