What’s a Penny Stock?

Oct 11, 2017Blog, Trading Articles

Trading penny stocks became popular lately. It is no wonder, as it appeals to human nature.

Don’t we all want to buy something extremely cheap only to see it doubling or tripling in price shortly? If you are like most of the people, you’ll answer yes.

For all those looking for a new Amazon or Google of our days, penny stock trading is for you. But what’s a penny stock, anyway?

What’s a Penny Stock?

Don’t let the name deceive you. While it is true for most of the stocks in this category, a penny stock doesn’t always trade for…pennies.

The SEC (Security and Exchange Commission) changed the “penny stock” term to include more companies in this category. Therefore, any stock trading below $5, is a penny stock.

The idea remains the same. These companies trade for almost nothing. Hence, they appeal to the public that doesn’t have much money to invest.

For example, I’d love to buy Berkshire-Hathaway shares, but they come at a stiff price: 278k/share. Or, Amazon, but that’s expensive too: $946/share as of September 2017.

I don’t have that kind of money, to afford a sizable portfolio. But, I’m looking for companies to reach that potential, while currently trading for nothing.

To put it in perspective, penny stock traders search for the Bitcoin of stocks. Remember when bitcoin traded for virtually nothing? Now’s over $4000 and rising.

Interested in how to buy penny stocks? Keep reading!

Penny Stock Trading

Before anything, trading penny stocks is risky business. Any trading-related activity bears a certain risk degree, but this one exceeds the average.

With high potential reward, comes a great danger or losing a significant portion of your investment. These stocks are extremely volatile and will move on nothing at all.

Even with penny stock trading, traders must keep their feet on the ground. If you expect to make a million bucks overnight with a 10k investment, think again.

Not that’s impossible, but it’s unlikely to happen. What’s likely is for the stock to double or triple or quadruple in time. In turn, this is unlikely to happen with a regular share, in a short period.

In penny stock trading, the volume is an excellent indicator. The bigger the volume, the most appealing the stock is.

A fair number of daily shares would be above 100k. Simply avoid penny stock companies with a lower volume. You ask me why?

Here’s why: after buying a sizable chunk, you might want to exit at some future point in time. Either to book the profits or to cut the losses.

Well, there’s no volume, you may have a hard time doing it. It is more likely to be caught in a “limit-down” or “limit-up” situation, being impossible to get out.

Of course, if you’re in profit, that’s a good thing. However, even this can be troublesome as the tide can turn in a blink of an eye. Before exiting with significant profit, the shares may turn limit-down and lock you in all the way back to square one.

What is Penny Stock Investing?

The simplest way to invest in a penny stock is simply to participate in its IPO (Initial Public Offering). When a company becomes public for the first time, it has a great potential to rapid price movements.

However, that’s not always the case. Some IPO’s end up in big disappointment. Nevertheless, investing implies a longer time horizon, so an IPO is a great way to get in.

Traders first worry about the risk associated with an investment. Containing the risk is key.

Only after they assess the risk, they look at the potential reward. As such, a trade that doesn’t offer a solid return should be dismissed.

A risk-reward ratio suitable for any investment must have the reward bigger than the risk. The bigger, the better.

That’s valid for all financial markets, stocks trading included.

What is penny stock investing if not putting your money in a company’s shares, expecting them to be double or triple in short time? Is this risky? Yes.

Is it following a proper risk-reward ratio? Yes, it does. You risk your capital on the premises of potentially making twice or more on your investment.

However, that’s theory. In reality, few penny stocks double or triple in a short period. And, those that do reach those levels in explosive moves.

Before any investment, gathering information is key. For penny stock companies are small, it’s hard to find information. It isn’t like they’re obligated to file with the SEC or something.

As penny stocks are companies in a growing phase, they seldom have the cash to expand or to invest in research and development, etc. Therefore, make sure you investigate the company before buying its stock.

Look for financial information in major online search engines, or only check designated services like over the counter bulletins, and others along the same lines.

Moreover, make sure you avoid sharks. In penny stock trading, it is common for advertisers to promote a company as being a sound investment aggressively, and throw the low price in your face.

While it looks appealing, you shouldn’t rely on unsolicited suggestions. It may end up being a costly business. Hot stocks or secret, insider tips, do not exist in real life trading.

Often, even the company’s management misleads potential investors. They’ll do anything to survive another day.

When trading stocks, most of the traders look first to buy, then to sell. Of course, at a higher price.

However, traders sell short penny stocks too. If you consider the price simply went through the roof, you might want to sell it.

But this is even riskier. As with the information, you’ll never know how much is enough in an upside move. Hence, the risk of being short-squeezed is bigger than the risk of the company’s stock price being wiped out.

As such, don’t ever, ever sell short a penny stock as a habit, or strategy. Eventually, you’ll end up on the wrong side of the market.

Ever wondered how to buy penny stocks? These days, with an Internet connection, you can do anything. Including buying penny stocks.

You can do that using the online services of a broker. However, each broker comes with its offering, and most of them have hidden commissions/prices.

While buying the shares of a penny stock company for less than $5 may sound like the deal of a century make sure you pay attention to things like trade surcharges, volume restrictions, or even trade restrictions. Brokers don’t run a charity, and they make sure the house wins most of the times.

Where to Buy Penny Stocks Online?

Penny stocks are traded on listed over the counter services. As such, traders use OTCBB or Pink Sheets to buy them.

Selecting a broker for penny stock trading with is not an easy task. But, don’t make a case out of it.

As mentioned earlier, brokers use various tactics to hide different costs. For example, they combine flat trade prices with quality execution, or even with data tools and research.

What matters, though, is the fact that you can use their services. Pay attention, though, to the after-hours moves.

Most of the times, penny stocks move aggressively in after-hours trading. A lot of movement happens after exchanges close, hence volatility goes through the roof.

One can buy penny stocks without a live broker, though. The so-called “no-frills” services exist, and these sites will let you set up a trading account for making your buying and selling. Of course, everything against a predefined fee.


In penny stock trading, make sure you do your research before jumping in. Many penny stocks, especially those trading at fractions of a cent, are subject to higher risks.

Low liquidity and poor reporting standards make trading penny stocks a tricky business. Liquidity problems can create huge traps for investors.

Moreover, penny stocks trade infrequently, making it difficult to exit once you own such a stock. Therefore, most of the times it is impossible to find an accurate pricing of specific penny stocks.

To sum up, with great potential rewards, come high risks. Penny stocks trading carries a bigger risk than common stocks. Make sure you consider that before deciding to buy something only because it trades below $5 a share.

On the other hand, you’ll never know if you just bought a real gem, until you try. If a little trepidation doesn’t hurt your investor’s appetite, then penny stock trading might be for you.