Instructions on How to Buy Penny Stocks
Trading penny stocks can be very profitable but also very risky at the same time. Following strict instructions on how to buy penny stocks is therefore very important.
If you are new to stock market investing, you should first understand some very important characteristics of penny stocks; only then you will understand why investing in penny stocks carries above average risk. So, penny stocks are stocks which trade on stock markets bellow $5 value. If you will look at some biggest companies trading on stock markets, like Apple, Google, McDonalds, etc., they all trade at tens of dollars and this is typical for blue-chips with well established business history. These stocks trade on New York Stocks Exchange, NASDAQ, AMEX and other major exchanges all over the world.
On the other side, there are companies which have just started their business, they have strong believe in their success, but they are somehow still on the beginning of the entrepreneurship business. They might succeed with their product, service or idea, but they may also fail. They have come to the stock market and sold out part of the company to public and listed their shares on the exchange, to obtain fresh capital for further business expansion. Stocks of such companies don't trade on the biggest exchanges like New York on NASDAQ, but rather Over-The-Counter (OTC), Over-The-Counter Bulletin Board (OTCBB) and Pink Sheets. Penny stocks as we call shares of such companies are normally priced in cents (generally bellow $5), so people often call them nano stocks, dollar stocks or micro-cap stocks.
One of the most important characteristics of penny stocks is less strict obligations about their financial reports to the Securities and Exchange Commission (SEC). OTC and OTCBB at least require some kind of reporting, while quotation on Pink Sheets doesn't require that. This is very important fact for investors who want to buy penny stocks, since there is nowhere you can check how the company is actually doing, is their financial condition healthy or not. Buying penny stocks can be compared to buying some kind of black box, promises of super product or service, which cannot be personally reviewed; you simply buy the words of the management which might come out true or false. When you intend to buy penny stocks be aware, that among over 3,000 of them many run out of money or simply disappear before their business idea becomes lucrative; many Pink Sheets stocks are even connected to some kind of fraud. Always keep the following question in your mind before taking the final buying decision: "Could it be the fraud?"
Buy Penny Stocks in 5 Easy Steps
We suggest you to follow next five points when buying penny stocks:
- Find a reliable and cheap broker. There is a lot written about how to select the right stock broker within our website. To make it short, when it comes to trading penny stocks, broker's fees are very important, since stocks are priced very low. Check a few brokers and especially their minimum commissions. Focus on online stock brokers, since discount and classic brokerage houses are not competitive with their costs. Scottrade, OptionsHouse, TradeKing are just few of them.
- Research which penny stocks to buy. This is probably the most important and crucial step. You have to narrow down the stocks list from 3,000 to less than ten. Some ideas can be found through online forums, bulletin boards, newsletters and other websites, maybe even your broker might support you with some recommendations. Be selective! Be doubtful! Every single time! Also setup a list of your own criteria the stock must pass. Among criteria look at the liquidity (at least 100,000 shares daily on average), look for the uptrend (must trade above 8 and 20-day simple moving average), stay away from companies with negative earnings are just a few of recommendations.
- Get as much information about the company as you can possibly get. Read their Initial Public Offering (IPO) prospect, think about their product or service, do you believe their idea has true potential to succeed in the competitive global economy? Read the latest news from the company and also from the industry to get familiar with it. Your judgments will make more sense this way.
- Fund your trading account and finally buy penny stocks you believe in and did passed your criteria.
- Protect yourself actively. Monitor the stock every day, also during the trading day. Penny stocks are very volatile, can jump quickly and also lose their value very fast. To monitor the stock actively means to protect yourself with stop-loss immediately after you enter the position and then moving the stop-loss in your favor to lock-in your profits once the stock trades in your desired direction.
These are some of the most basic recommendations to follow. There is one more tip or better say warning we would like to give to you. Be very careful about some penny stocks recommendations you might find on websites or by email, if they come from the unknown source; it can be a trap!
Written by: Goran Dolenc
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