The Risks of Investing in Penny Stocks

Investing involves risk and reward. Usually, it is the greater the risk, the higher the reward. That may ring true for investing in penny stocks, but you must remember that along with such high risk comes the high possibility for great losses. Those with a high aversion to risk should stick to the sidelines, or better put, those stocks listed on the New York Stock Exchange (NYSE) and the NASDAQ. Penny stock investing is not for the faint of heart or light of pocket.

The Securities and Exchange Commission (SEC) defines penny stocks as having a price of under $5 per share. Some stocks on the NYSE and NASDAQ fall into that range, but are not considered penny stocks. Penny stocks can be purchased through the Over-the-Counter Bulletin Board (OTCBB) or the pink sheets. The requirements for being listed on the OTCBB are not as stringent as those for the NYSE or NASDAQ. These requirements include a penny stock company providing some information to the SEC. The pink sheets have no such requirement and simply provide a quotation for companies that are registered with it.

Given the lesser restrictions place on penny stock companies, finding information can be challenging. However, investing in penny stocks requires that you do your due diligence in finding the right reasons to put your money at risk. Study the company’s operations and financial statements to be certain that they have a viable business strategy and are working hard to climb out of the doldrums. Doing so can put you in a good position to reap the rewards of investing in penny stocks.

Adding to the risks of investing in penny stocks are the opportunities for fraudulent practices. Penny stock investment has become a major draw to firms and individuals looking to dupe an unsuspecting investor out of their money. It is just as important to research the brokerage firm you are planning to use as it is to research a penny stock company. Ask questions about fees regarding balances, transactions, and operations. The more informed you are about the brokerage firm, the better you can determine if they should have your business. If you already have a broker you work with, they should be able to help with purchasing penny stocks.

For the beginning investor, penny stocks can prove to be dangerous waters to travel. More seasoned investors might be able to traverse this path, but even for them it will be daunting. In all types of investing, information is king. For penny stock investing, this is the rule by which you will live and die.