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Understanding Penny Stocks

Aug 17, 2007
As the name suggests, penny stocks are stocks that are extremely cheap, usually priced less than $5 a share. These are most commonly all from small companies. These stocks are traded on the Over-The-Counter-Bulletin-Board (OTCBB) and the Pink Sheets. Both these trading venues do not have the same kind of minimum requirements of exchanges such as Nasdaq or the NYSE set by the Securities and Exchange Commission. Companies that issue penny stocks may be new businesses or close to bankruptcy. So beware when you are investing in such stocks - keep in mind that some of these companies are startups and others are near bankruptcy.

1. A Bad Investment

In fact, the low price may be the only thing that penny stocks have going for them. A lack of standards and stability make penny stocks one of the riskiest investments around. It is true that if a company succeeds the payoff will be great, but the vast majority of penny stocks end in utter failure.

2. Lack Of Company Information

Companies listed in the Pink Sheets or the OTCBB do not have to issue financial statements. Most companies also have little reportable history that is known. You certainly will never have heard about any of these companies, nor will they be likely to have ever been featured on the news.

3. Low Liquidity

Very infrequently traded, finding a buyer once you invest can be a real hair puller. You may have to lower your price a lot in order to get people interested enough to take the stock off your hands.

4. Fraud

Because they are completely unregulated, penny stocks are commonly used by con artists who sell them through spam emails or off-shore brokerages that don't have to adhere to laws because they operate in international waters.

5. Why On Earth Choose Penny Stocks?

All of this doom and gloom might have you wondering why you should consider penny stocks at all! Well, first of all, not all penny stocks are frauds or companies facing bankruptcy. Some represent hard-working businesses that are struggling to meet the requirements to get listed on Nasdaq or the NYSE. Investing in these companies offers real growth potential, you have the opportunity to get in at the ground floor and ride all the way to the top. The difficulty is finding that companies have this growth potential. Getting this information requires a lot of research and unless you are willing to take the time to personally investigate a company, you may as well throw in the towel.
About the Author
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