February 27, 2013

5 Reasons Why Penny Stocks Are Risky

Penny stock trading is fraught with risks. It’s a cheap mode of getting into the stock market, but like many money saving measures, it’s not dependable. There are lots of risks involved if you are trading in penny stocks. We have tried to underline some of the prominent ones.

1. Rife with speculation

The stock market is extremely speculative in nature, and penny stocks are more so. You are taking more risks if you are trading in penny stocks. As they have very low market caps they become very risky for traders who deal in low volumes. Speculation means a chance of losing money or at the other end of the spectrum lies the possibility of earning a lot of money.

2. Difficult to sell

Don’t be in the false belief that penny stocks can be sold easily just because they are priced much lower than the other stocks. This is largely attributed to the fact that the quotes for them are very difficult to locate. You will find that many buyers are wary of buying penny stocks because of their volatile nature. You will spend a lot of time trying to find buyers and then selling them for a price that will give you proportionate profit

3. Very little liquidity

A corollary risk of the point mentioned earlier, is the fact that the shares are distributed amongst very few shareholders. At times, you might just find that a company listed off-shore has a large chunk of shares. You must be wary of such companies. Liquidity also results in the exploitation of the market by false companies, stockbrokers, financial managers of large companies and various other people.

4. Unpredictability

It will not come as surprise that owing to all the risks listed above that day trading penny stocks is unpredictable. The prices are unpredictable and can give you many a sleepless night. One day you might find that the prices have risen sharply and the very next day or after a few hours, they might just go on a sharp decline! There is no consistency in the market, but this fact is accentuated in terms of trading these midgets.

5. Little or no protection

Shareholders have very little protection against fraud or scammers. This is because small cap companies like these have very little regulations to adhere to for listing purposes. So, if you are looking for companies that maintains its account books, follows proper accounting procedures, or gives notifications about share allotment, then forget about investing in penny stocks.

The risks listed above should not deter you in any way in investing in penny stocks. They should only serve as a warning and nothing else. Not all penny stocks are unreliable, and it all depends on the choices you make. Choose your penny stocks with due care and you might just see yourself prospering! Try and get some good deals and don’t allow any company to take you for a ride.

So take extreme care while trading in penny stocks and most of all: DO YOUR OWN RESEARCH!

Carl Croft

Carl is an active trader of forex, stocks and commodities who mainly uses charting and candlestick strategies. An author on various trading websites and is admin here!.