Understanding Penny Stocks - Your Journey Starts Here

Undoubtedly, understanding penny stocks will generate high rates of return on investment on these often overlooked non-marketable securities. These microcap shares have an undeservedly negative reputation among traders mainly because of fraudulent companies seeking to profit from their issuances.

We have to admit that penny stocks have more than their fair share of risks but the rewards are more than sufficient to balance out the risks. The trick is in getting the highest possible profits from penny shares is to understand these securities in terms of seeking the answers to the what, why, when, where and how of these investments. When you have acquired the essential knowledge regarding nano stocks, you are better able to make good decisions based on informed judgment. A wise man once said that knowledge is power - or profits, in the case of investments.

Penny Stocks Defined

The first step in understanding penny stocks is to know its general definition. At present, no definitive definition exists for penny shares although one of the following aspects is used to classify stocks as nano shares:

  • Price per Share - Low trading price per share of $5 or less although many other industry experts will assert that it should be $1 or less per share
  • Market - The stock should trade in over-the-counter venues like the OTC Bulletin Board and the Pink Sheets. However, penny shares can also trade in securities exchanges like the Nasdaq and Amex as well as in foreign securities exchanges. Reporting requirements are often less strict with penny stock companies listed in the OTCBB and the Pink Sheets so extra caution is advised.
  • Market Capitalization - The company shareholder's equity is US $5 million or less. This is the origin of the term microcap, which is a shortened form of micro capitalization. Basically, the company is unable to meet the capitalization requirements necessary to be listed in the Big Boards like the New York Stock Exchange.

Most veteran traders will label stocks as penny shares if and when this is the case. We suggest asking a seasoned pro or an experienced stockbroker for a list of microcap shares.

Penny Stocks Comparison

The goal of understanding penny stocks in an in-depth manner necessitates comparisons with the so-called blue chip stocks. Since you are more familiar with blue chip shares, it makes sense to take your familiarity as a jump-off point to know something unfamiliar. The following are just a few of the possible comparisons:

  • Speculative Nature - Penny shares are highly speculative in nature with many companies banking on favorable speculations to sell their stocks. Blue chip stocks have little to no speculative value because of the issuing companies' corporate stability.
  • Potential and Predictability - Microcap shares have downsides of less actual value and high level of unpredictability than blue chip shares. The upsides are that nano stocks can have price explosions that a savvy trader can take advantage of in order to make a tidy profit. Just make sure to anticipate the highly volatile nature of the price swings and to grab the profit opportunity at the first instance.
  • Fundamental and Technical Analyses - Understanding penny stocks being considered for trading purposes require both these types of analyses. The obvious goal is to determine the present health and future direction of the issuing company. Unfortunately, you will find it harder to apply fundamental and technical analyses to penny stocks - harder, not impossible - because of the limited information available.
  • Risk/Reward Ratio - As previously mentioned, the risks are higher but the rewards can be higher with penny stocks in comparison with blue chip stocks.
  • Ease of Acquisition - Microcap shares can be more complicated to purchase although this scenario varies from one company to the next. In contrast, blue chip shares are easier to transact with because of the high visibility of the stocks.

We always say that understanding penny stocks requires study of the many aspects that can make the difference between profit and loss in these potential investment options. If you already know about the workings of blue chip stocks, you can almost immediately understand penny shares. Now, if you are knowledgeable about penny stocks, you can make the transition to blue chip stocks easier. Either way, you will benefit from understanding penny stocks.

Also see: Penny Stocks on Wikipedia.

Penny Stocks Trading Venues

The next matter in penny stocks is where to find these shares for the purpose of trading. As we mentioned earlier, the Pink Sheets is of the many venues for trading nano shares. We must warn readers, however, that this venue is highly risky because the issuing companies are under little to no pressure to comply with strict reporting and regulatory requirements. Although reforms are under way, it still pays to play it safe on this matter.

Instead, we highly recommend the following safe venues for trading in penny shares:

  • NASDAQ SmallCap Market requires the issuing companies to comply with regimented reporting requirements designed to provide investors and traders with reliable information about the organizations.
  • AMEX provides for many benefits to traders including excellent investor visibility, ease of access to reliable financial information and dependability in the standards imposed on the companies.
  • OTC Bulletin Board is also a reliable place to find the best stock picks.

We also suggest never buying directly from the issuing company. You will want to avoid falling victim to a fraudulent company with the promise of going global only to discover that everything was written on water.

Starting With Penny Stocks Trading

Understanding penny stocks does not stop with reading resources. You must also start trading nano shares so as to earn a profit. Your first step is to hire a reliable stockbroker who is willing to handle your penny shares account. You may also use the paper trading feature of the stockbroker's site to hone your skills in trading without risking a single cent of your money. You should also make an entry and exit plan as well as an investment strategy complete with your wealth goals

Indeed, your ability in understanding penny stocks within just a few hours of study will be tested once you make your first profit or suffer your first loss from these trading options. Are you ready?