While it isn’t the most lucrative way to enter the world of trading, penny stocks are a viable option for newbie investors. Penny stocks refer to those companies that offer shares at meager rates, as little as below a dollar per share.
When trading in penny stocks, beginners can buy shares for mere cents and then sell them for a profit once the price trades back into tens of dollars. The very low share prices mean that even those without a lot of money to invest can break into the market and make a profit by holding a vast amount of shares at nominal prices.
The sheer number of shares one investor can buy ensures that the returns multiply substantially.
Make bank or break the bank
Something to keep in mind before beginning to invest in penny stocks is that they are sometimes used to manipulate the stock market (as seen in The Wolf of Wall Street!).
Importantly, you need to invest in many different types of stocks to make a dent in the returns you are obtaining. Suppose it seems that penny stocks are advantageous since they require a very nominal investment.
In that case, the chances are that the profit margins you see are those on sub-penny stocks or trip zero stocks. They are usually only profitable to people who get there first and buy the stock. So what’s the cardinal rule of making money using penny stock? Get there first and diversify your investments as much as possible.
While it may seem that the $100,000 someone is making in profits is a considerable amount, chances are they also likely have a very large investment of 100 million shares at as little as 0.0001, namely, $10,000 in investments.
While the profit obtained is substantial, the amount of capital invested in turbulent markets isn’t a risk everyone should take without consideration.
The risks and the perks
Investing in penny stocks runs the primary risk of speculation and an oscillating market. There is no reassurance as to whether your investment will get returns or if it will be bogged down by issues like the lack of liquidity of penny stocks.
The second issue is the large gap in the bid-ask rates, which may make potential stock buyers unwilling to procure what they presume to be cheap stock from you at any high-profit rates.
Two other drawbacks of penny stocks are that they are structured along the lines of small market capitalization, without which profits are a far-off dream. A limited following also holds back the market.
However, you can’t get returns without taking risks. On that front, penny stocks aren’t much different from trading in traditional stocks. They require you to undertake a higher level of risk tolerance, after which, if you are successful in profit maximization, you are cut out to trade in and are prepared for more challenging, riskier stock markets.
Since the amount of capital required to invest is nominal, everyone of every income group can learn how to trade in penny stocks, understand the market better, and make a profit for their long-term financial success.
The crucial thing to keep in mind is knowing how to deal with the market, being prompt in responding to market change, and reducing risk by first learning how to trade on trading simulation apps.
Tips and tricks
While the market isn’t as lucrative as other trading forums, you can prevent losses by carrying out a risk-reward strategy well in advance of your investment. These include:
1. Small, diverse holdings
While it is too easy to get excited by the nominal share prices and spend money buying more penny stock than you need, you shouldn’t throw all caution out of the window.
While the costs are seemingly low, penny stocks shouldn’t be your primary investment. They should constitute only 3% of your entire investment portfolio. Make sure to diversify your holdings to maintain profitability and account for risks accordingly.
2. The timings game
This is essential for all kinds of trading, especially for penny stock trading, since the market is so volatile.
Penny stocks don’t follow the general trading model of buy-and-hold and are only profitable at short intervals after your purchase. Instantly trade the stock should its sell price rise substantially.
3. Invest in high-quality stock
Just because the share price is nominal doesn’t mean you shouldn’t invest in stock that has proven to be profitable. Analyze the markets to see which stocks are outperforming their competitors.
There’s no harm in investing in new ventures (that may even be a perk), but check for upward trends before putting your money anywhere.
4. Important metrics shouldn’t be overlooked
Many investors in penny stocks seem to think that the nominal share price warrants them not checking for liquidity and trading volume. Even if this investment is a small-scale side hustle, you will eventually draw your money. Therefore, it is worthwhile to check liquidity and other vital metrics before investing.
Suppose you don’t consider the concerning state of liquidity in this market. In that case, you may end up with a drastically different bid-ask, which can prevent your estimated profit from materializing.
Our final advice
When trading in the stock market, penny stocks shouldn’t be your first priority. However, if you are enamored by the low share prices because you have limited capital or want to learn how to trade before making any significant investments, penny stocks are a good choice.
Volatility and inconsistency are major problems with penny stocks, so you need to be prompt with your trading decisions.
Convinced that this form of investment is right for you? Find yourself a broker, undertake a viable risk analysis strategy, fund an account, then invest in profitable stock.
You can even utilize the services of stock screeners if you are particularly worried about risks. They carry out an analysis of the stock you are interested in and advise you on which to invest in as per your risk margin and trading methods.