What are penny stocks?
Some of the typical characteristics of a penny stock include:
- Small company
- Market cap below $15 million
- Newer company recently listed
- Share price below $5
- Limited financial track record
- Doesn’t pay dividends
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The term penny stocks is commonly used in the US, UK or Europe, but you may have heard the phrase in New Zealand too. So what are penny stocks?
Penny stocks is a loose name for cheap, low-priced shares of small, often newly listed companies. There are a few different ways to define penny stocks. Some definitions say it’s listed companies with a market cap of less than $15 million, which is why penny stocks are also commonly referred to as small-cap stocks. Another definition is stocks with a share price of less than $5. However this is a rather vague definition as some blue chip stocks have share prices below $5 too.
Investors are often attracted to penny stocks for their cheap prices and potential growth opportunities, though there are risks involved with penny stocks, too.
Some of the typical characteristics of a penny stock include:
Here are some of the benefits and risks of investing in small-cap penny stocks:
On the opposite side of the scale to penny stocks are blue chip stocks. In comparison to penny stocks, blue chip stocks are large listed companies that have been around for a long time and have a long, stable financial track record. Some of New Zealand’s biggest and most well-known companies are considered blue chip stocks, such as Fonterra, Auckland Airport, Spark and Fletcher Building.
While penny stocks in most cases pay no dividends, blue chips stocks almost always do.
You could consider investing in penny stocks if:
If you’re keen to invest in penny stocks, here are some tips to help you get started:
This is important for all investments, but particularly higher-risk investments like penny stocks. Blue chip stocks are, by their nature, lower-risk options as they’ve got a long history of strong financial performance.
Before you start buying, decide which penny stocks you’re going to invest in and how much you’re going to invest in each one. It’s also important to decide what price you’d sell at if the shares were to fall and stick to it to avoid the “I’ll just hold a little longer and see if the price jumps back up” mentality. The same applies for gains.
It can be easy to get emotionally attached to a penny stock, as they’re often the underdogs in your portfolio. So when their share price falls and falls some more, you can find yourself making excuses as to why you should keep holding. This is why it’s important to make a strategy, so you leave the emotions out of it.
Penny stocks may appear to be cheap in comparison to other shares, but don’t base your investment decision purely on this. One factor that influences a company’s share price is the demand for its shares. The less demand from investors, the lower the share price. So some penny stocks may appear to be cheap, but you need to ask yourself why this is.
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