Learn how to invest in penny stocks if you are a rookie investor, some helpful tips and why you should consider investing in them.
Penny stocks have a bad reputation that makes many potential investors shy away from them. The term itself is also a bit misleading, as “penny stock” doesn't necessarily refer to price but rather market capitalization which means the total value of company shares. Penny stocks are generally classified as those trading below $5 per share.
In fact, though some expectant investors believe penny stocks only represent cheap companies with growth potential, these types of investments actually fall into two categories: high-risk and high-reward; or low risk and low reward (also known as vulture stocks). These classifications depend more on the penny stock's sector than its actual price point.
Most people think of microcap companies as mom-and-pop shops, or in simpler terms, small and unproven companies just starting out. However, this is not always the case. While many microcap stocks do fall into this category and will likely continue to fail, research has shown that investors can actually find promising opportunities in these underestimated companies.
Finding reputable high-growth penny stocks may be more difficult than finding strong stock picks overall, but it is certainly possible with patience and knowledge. To begin learning how to invest in penny stocks for beginners, read on!
What are some tips for new traders?
There are methods of investing new traders should avoid, methods which typically result in losses instead of gains. One of the most common problems rookie investors have is getting too attached or overly confident in their choices. When they buy a stock at $0.70 and it plummets to $0.10, they refuse to sell because they think that the stock “will go back up.”
The best thing for new traders to do is write down their trading rules before investing in any penny stocks including the reasons behind those rules. If a trader falls in love with a stock, he may make impulsive decisions without thinking them through, potentially causing future losses or gains.
One of the most important things successful investors have in common is discipline; knowing when to hold on or cut their losses can mean all the difference between big-time payouts and financial collapse. Thus, finding an entry point becomes even more crucial for newer traders.
If you are just starting to learn how to invest in penny stocks, make sure you first define your entry and exit points. How much should a trader risk on his first trade? For beginners, it is best to choose an amount that you would be comfortable losing if the stock drops 100% or completely obtains worthlessness or flat zero.
How can I find profitable penny stocks?
Beginners should familiarize themselves with the basic methods used by experienced investors as well as those who continually lose money. Since there are such small price fluctuations in microcap companies, most of the information available about them is public and this makes researching individual names relatively simple. However, even though it is possible for people with no prior knowledge to successfully research penny stocks, it takes time and effort.
While there is no such thing as a “surefire” way to earn money in penny stocks, some researchers have found success by focusing on undervalued and undiscovered microcap companies with low market caps and daily volumes of fewer than 100,000 shares.
It is important for investors to thoroughly research the fundamental and technical aspects of any given share price before buying into it. Just a word though: It takes more than just looking at company earnings or examining past trends because if this were easy, everyone would be effortlessly rich. After all, every stock's value depends on its balance sheet, total assets and liabilities, income statement (profit/loss), cash flow statement (liquidity), shareholder equity, revenue amounts (sales), and more – not just its industry and sector.
If you are looking to invest in penny stocks, try to keep costs as low as possible when researching. You will find it much easier to use free services instead of premium ones, such as Yahoo Finance versus Morningstar, say for example. Also, check out many different sources when conducting your own research so you can compare opinions and gain a diverse perspective on the issue at hand. Whenever possible, determine whether independent analysts have given positive or negative recommendations; this information is often publicly available and can be found with relative ease.
What about risk?
You should never go into any investment blindly because if that were the case, why even bother investing? When it comes to penny stocks, however, things become a bit more complicated because risk can be quite high. Having analyzed the market thoroughly, experienced traders understand that penny stocks are much riskier than blue-chip shares because they usually do not have any shareholder equity or large investment backing them up.
If you want to venture into the world of roulette-style rouge stocks, make sure you risk no more than one percent of your portfolio on any one trade. Since there is no realistic way to ensure positive earnings in microcap companies, as well as no way to accurately determine how risky certain investments are, it is best for rookie investors to take calculated risks rather than shoot blindly and end up losing everything.
It takes time and effort to research penny stocks. While some people may disagree with this statement, it is true that even experienced market players still make mistakes. As long as you are patient and willing to learn, it is possible for anyone to make money in penny stocks.
When will I know if I'm ready?
Investing in microcap companies requires an immense amount of patience. Know that nobody ever said that becoming a successful penny stock trader would be easy (if they did, they were lying). As with any other kind of trading, the most important aspects are perseverance and willingness to keep learning from past experience. In time, your knowledge should become sufficient enough for you to venture out on your own. Just remember: The more experience you garner, the better off you will be when you start buying or shorting shares on your own.
As with any other type of trading, it may take time for you to feel ready. The difference between gambling and investing is that there are many respectable penny stocks brokers who will provide you with the tools necessary to become an informed trader. After all, if no one can understand how much risk is involved in a trade, who knows what could happen? If noise traders or those traders that make decisions based on irrational thinking are willing to pay the ask price for a particular share, then there must be something behind it.
Even though this article has covered quite a bit of information about starting your penny stock portfolio, it would be incomplete without mentioning that your broker will play a major role in your investment success. If you are wondering how to invest in penny stocks successfully if you are a beginner, the answer is simple. Decide whether or not you want to trade on your own or seek professional help.
If you plan on trading, then keep in mind that it might be best to try out a few different brokers before making your final choice. This way, you can compare commissions and fees as well as each broker's strengths and weaknesses before determining which one is best suited for your needs.
Any experienced player will tell you that penny stocks are far less risky than almost any other type of investment product on the market today. As long as several guidelines are followed prior to purchasing shares, investors have nothing to lose but their fears of uncertainty!
Read the Entire Investing Series
- 7 Penny Stocks that Pay Dividends
- Are Stocks Risky? Not if You Watch This
- Stocks vs Bonds and How Much to Invest in Each
- How to Turn the Penny Challenge into $2,500
- Where to Invest to Get the Best Returns with Less Risk