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Penny stocks are the name given to shares of companies that trade for under $5. These companies are typically small, and the market is considered one of the more speculative types of investment. Thankfully, our experts at Traders Union have done in-depth research so you'll know where to buy penny stocks online.
Penny Stocks Definition
Penny stocks are shares in smaller companies that trade for less than $5 a share. There are a few penny stocks that trade on more prominent exchanges like the New York Stock Exchange; however, the majority trade through over-the-counter (OTC) transactions via the OTC Bulletin Board (OTCBB) or the OTC Markets Group. OTC transactions don't have a trading floor, so all their quotations are done electronically.
Previously, penny stocks were considered to be any stocks that traded for values of less than a dollar per share. However, the US Securities and Exchange Commission (SEC) has altered the definition to all shares that trade below five dollars.
Because penny stocks are generally shares in small companies that trade infrequently, they typically have low liquidity and a deficit of buyers. This situation means it can be difficult to sell penny stocks at certain times. Low liquidity can make it hard for investors to find fair market prices.
Penny stocks are very speculative assets that carry a high level of risk for investors. However, selecting the right penny stocks can lead to excellent levels of returns.
Penny Stocks Advantages
Quick Gains
Penny stock's big attraction is the possibility of providing large and quick gains. These assets are used to generate equity capital for smaller companies that are just starting out an industry, companies coming out of bankruptcy, or emerging companies that aren't well-known to investors.
Many penny stock companies are small companies with high hopes. However, if they have good potential that mainstream investors unearth, the stock price can rise dramatically in mere weeks or months. Anyone holding penny stocks during that stage stands to make huge gains.
Low Prices
Because penny stock shares are listed at affordable prices, investors can buy considerable holdings for small sums. For example, if a company's stock trades at 25 cents per share, investors can grab 2,000 shares for $500. If the price shoots up to $1 per share, the same investors can sell their shares for $2000, netting a profit of $1500.
However, if the shares dropped significantly, the investors would only lose around $500.
Easy to Buy
Penny stocks are easy to buy. They are ordinary shares that are made available to the general public. Many penny stocks are listed across stock exchange markets so that prospective investors can be aware of them. When picking a penny stock, investors should ensure they buy companies with good reputations.
Good Option for Under-Capitalized Investors
Penny stocks offer a point of entry for undercapitalized investors. If you only have around $500 to invest, you'll have limited options to diversify your holdings with more prominent companies. However, that same sum could allow you to buy thousands of shares of penny stocks.
Many Smaller Companies are Undervalued
Some people say that penny stock companies are badly managed and have poor financial prospects. However, this isn't true across the board. In fact, many of these small companies are solid but just not large enough to trade on bigger exchanges. Good penny stock investors can separate the signal from the noise and find these companies with high potential.
Penny Stock Disadvantages
High Risk
High rewards typically mean high risk. And this is true of penny stocks. Most investors who buy penny stocks struggle to turn decent, consistent profits. Small companies don't realize their potential for various reasons, and those that do can take a long time to bear fruit.
Additionally, because these stocks fly under the radar of mainstream investors and analysts, finding reliable company information can be difficult. For example, companies with assets lower than $10 million and fewer than 500 shareholders aren't mandated to file their financial statements with the federal securities regulators. As a result, it can be challenging for investors to make informed decisions.
Fraud
Unfortunately, penny stocks are occasionally vulnerable to fraud. Minimal regulations, low liquidity, and their relative obscurity make them easier to manipulate by unscrupulous traders. One common penny stock scam involves scammers trading the stock between themselves to pump up the price. Then, when unsuspecting traders buy in, the traders dump the shares, taking the profit.
Volatility
Because penny stocks are thinly traded, they can be subject to exaggerated price swings. They can go up or down in price very quickly. These possibilities mean that penny stocks aren't always the best options for investors with a low-risk appetite or those who want to buy and hold.
Lower Quality Stocks
While there are many undervalued penny stocks with good potential, there are also many poor-quality stocks in the listings. In fact, a fair proportion of these companies have weak balance sheets with significant operational losses. These weaknesses could be for several reasons, such as serving dying industries, inferior products, or over-competition.
Where are Penny Stocks Traded?
Most penny stocks trade happen via over-the-counter (OTC) transactions through OTC Bulletin Board (OTCBB) or OTC Markets Group. The OTCBB is an electronic quotation service provided by the Financial Industry Regulatory Authority (FINRA).
In 2020, FINRA stated it would wind down the OTCBB because the majority of OTC trading now happens on OTC Market Group platforms.
Additionally, some penny stocks are traded on the New York Stock Exchange and the Nasdaq. Trading penny stocks there is far more accessible.
Step 1. Choose Your Online Stock Broker
Online stockbrokers are intermediaries that facilitate investors buying and selling financial instruments. Simply put, instead of buying shares directly from the company, you buy them through a licensed broker.
Thanks to technological advancements, investors and traders can buy shares online through brokers. To purchase shares online, you just need to register with an online broker, fund your account, and select the shares you want.
What to look for Choosing Your Broker
When you are choosing an online broker to buy penny stocks, there are several things you need to ask, like:
Do they facilitate OTC trading?
What regulatory bodies oversee the online broker?
What size commissions do they take?
What is the broker's reputation?
What assets do they list?
What services does the broker provide for analyzing stocks?
To help you figure out where to buy penny stocks online, our experts at Traders Union have performed a detailed analysis and selected online brokers based on criteria like reliability and optimal trading conditions.
Not all online brokers support OTC trading. As a result, popular brokers like Robinhood or Webull were not included in the list.
Rating of The Best Online Brokers To Buy Penny Stocks
Step 2. Decide How Much To Invest in Penny Stocks Online
Once you've found a broker you can trust, you need to figure out how much you want to invest in penny stocks. The amount of money you invest will depend on your risk appetite.
Penny stocks are considered a high-risk investment because of their high volatility. While this means investors can make significant gains, the flip side is that traders can also lose substantial portions of their funds. Some traders choose to trade with leverage, which significantly enhances the possibility of losing their investment.
Considering all this, it's strongly recommended that you only invest money you can afford to lose. Don't bet your rent money on highly volatile stocks.
Step 3. Consider The Costs of Buying Penny Stocks Online
The costs of buying penny stocks online mostly depend on which online broker you decide to use. To give you a better idea of the costs involved, let's look at this example of buying stocks with the well-known broker Interactive Brokers.
The first thing to be aware of is that you should use a broker that offers flat-fee trades, and not per-share rates. Because penny stocks are cheap, investors can buy thousands of stocks for a low price. However, if they pay per-share rates, their expenses can add up quickly. Therefore, flat-fee trades are the smart choice.
Example 1: Flat-Fee Rates
TD Ameritrade charges a flat form of $6.95 for each OTC trade. However, Fidelity Brokers charges $0. Therefore, the costs associated with OTC shares are between $0 and $6.95.
Example 2: Per-share Rates
Interactive brokers charge $0.0035 per share, with a maximum cost of 0.5% of the trade’s value.
If you buy 10,000 shares of a specific penny stock at the price of $0.13 per share, that adds up to $1300. 10,000 shares x $0.0035 per share is $35. By comparison, $1300 x 0.5% is equal to $7.
Therefore flat-fee is typically cheaper.
Step 4. Decide What Penny Stocks To Buy Online
Once you have an idea of what broker to use, how much you want to invest, and the overall costs of buying penny stocks, it’s time to find companies to invest in.
Of course, finding good penny stocks isn't easy. Many of these companies have shaky financials and high volatility, putting your capital at risk.
However, there are several characteristics that you should consider when evaluating penny stock companies. Look for:
Companies that are making money
Companies with a good amount of cash or assets
Companies that have sound, long-term strategies
But finding companies with these qualities can be tricky. Everyone loves an undervalued stock, and experienced investors will snap up most of the best opportunities quickly.
The best penny stock strategy involves finding a diamond in the rough, getting in at a reasonable price, and holding the stocks until the company rebounds and gets itself back on a significant market exchange.
Here are three good methods to identify penny stocks:
Use Penny Stock Screeners
Traders can find penny stocks by using screeners to narrow down huge lists of companies. Some screeners are free, while others are paid. The basic principle here is to filter out the stocks you don't need by applying specific criteria. Then, you'll be left with a list of companies that fit within your parameters.
Some of the more popular filters are price, chart patterns, performance, volatility, and volume. By selecting on this basis, you can find stocks with considerable potential.
Once you've made your watchlist, look out for breaking news, the number of shares they have available to trade, or patterns of higher volume. Always keep an eye out for any breakout over pre-market highs, as these can make advantageous entry points.
Read Stock Chart Patterns
In stock market trading, there are two main types of analysis: fundamental and technical.
Fundamental analysis uses information about the company, such as who manages it, what debts they have, their revenues, or upcoming contracts.
Technical analysis uses trading chart patterns. Often, it is pretty challenging to find information on smaller companies, which means technical analysis is a good option for finding penny stocks. Once you've identified high-potential companies, technical analysis can give you some good insight into how the shares might perform.
Some patterns to look out for are price dips, gapping, bottoming-out patterns, and candlestick chart patterns.
Financial Ratios
Similar to chart patterns, financial ratios can be used to determine which penny stock you should trade. If you have enough financial disclosure, which should be possible for bigger penny stock companies, you can assess stock worth.
Positive trends on the balance sheets and strong financials are great to look out for because you want to buy penny stocks that are projected to perform well.
Some ratios that you should use are liquidity ratios, leverage ratios, performance ratios, and valuation ratios.
Once you've found a stock you like, you'll need to know how to buy it online.
In this example, we'll buy stock of Quantum Blockchain Technologies using the Interactive Brokers platform.
1) Find the Stock
Open up the platform and enter the stock name into the search bar, which you can see in the top left-hand corner.
How to Choose Stock on IBKR
Once you enter the name, it will come up like this:
Stock Search on IBKR
2) Click Through on the Instrument
From here, click on the instrument, in this case it’s Quantum Blockchain Technologies.
3) Buy or Sell.
When you open the instrument, a chart will display.
Stock Profile on IBKR
From here, you will see options to “BUY” or “SELL”.
We will select “BUY”.
4) Place Order
Now that we’ve selected “BUY”, we will have some options.
Placing Order on IBKR
We have decided to buy 1000 per point, with a stop loss of 0.5, and a limit of 2 pts.
These numbers mean that if the trade goes against us, our losses stop at -$500. However, if it goes our way, we will take a profit if it moves 2 points.
From here, you select the “Place Deal” button on the bottom right. Once selected, your trade is live.
Place Deal on IBKR
Can Penny Stocks Make Me Rich?
Yes. Making good money with penny stocks is possible. However, it is a high-risk market. To succeed in investing in penny stocks, you need to do a lot of research and be very committed and dedicated. Additionally, you need to practice good risk management, like setting sensible stop losses.
Of course, you can't escape risk if you want to make money investing. Because penny stocks have meager prices, you'll need to be smart to get rich trading them.
Overall, you can use penny stocks to get rich. But only if you dedicate yourself to understanding the companies and the market.
Penny Stocks Fraud: Is it a Big Risk?
One of the extra risks involved with penny stocks is fraud from bad actors. Penny stock fraud is similar to pump and dump schemes discussed above, but with some differences.
An example of penny stock fraud is when investors buy a share package in a big lot. Once the stocks are bought, the price begins to increase. These look like market interest, so investors and bots react to the trend. As a result, the prices rise even in the future.
Then, at a coordinated moment, the fraudsters dump their shares. This sell-off causes the price to fall, catching out unsuspecting bots and investors.
5 Tips For Buying Penny Stocks Online
1) Only Invest with Money You Can Afford to Lose
This tip is a fundamental tip for any kind of investing. Markets are volatile and unpredictable, which is why people can make money in them. It's also why people can lose money in them. It's imperative to only risk money that you can afford to lose.
2) Don't Chase the Hype
Sometimes a penny stock starts trending upwards for no discernable reason. While it can be tempting to get in on the trend, you should always stop and ask yourself a few questions, such as why the stock is going upwards.
It could be for several reasons like you've missed out on some big news or failed to spot something in the technical analysis. Or, it could be part of a pump and dump scam or because of misleading information.
Be a cynic and try to confirm why it's moving up so fast. Otherwise, you might regret it.
3) Learn From Your Mistakes
First, new investors need to make peace with the fact that they will make some mistakes. In any investment, you stand a chance of losing. However, these losses can be great opportunities to learn.
Remember, there are too many factors at play for you to be right all the time. If you take a hit, evaluate what you could have done better. But don't beat yourself up or get emotional. There will always be another position for you to open up as a better trader.
4) Use a Demo Account or Small Positions
In the early days of trading, it can be tempting to get a big scalp. This desire can lead traders to make mistakes, overtrade, or expose themselves to excessive risks through leverage.
All of this is easily avoided. Start trading with a demo account at the start. You can make all your rookie mistakes there. Of course, there is only so far simulated trading can take you. Learning to operate under the pressure of real potential risk is a skill set you'll need to develop. But again, caution is advisable. Start small, build your confidence, and keep your lessons cheap.
5) Study the Company
While technical signals are important, you shouldn't forget that you are trading on a real, tangible thing. So make sure you study the company. Look out for solid earning patterns and strong fundamentals. Lots of good companies started out as penny stocks and became big businesses. So, if the technicals are good, make sure you've got a few other factors to go on before investing big.
Summary
Penny stocks can be a great, low-cost way to get into investing. Because you are dealing with smaller companies, their share prices are under $5. These prices represent a great opportunity to get into something on the ground level. However, you should always remember that there is a reason why these companies aren’t trading for more. It could be that the market is irrational, or it might be to do with specific issues with the stock.
While you can make good money with penny stocks, you can also lose all your capital. Research, commitment, and dedication are all required to make money at these levels.
Penny Stocks FAQs
How much of my capital should I invest in penny stocks?
It's best never to expose too much of your money to any investment. Around 10% is recommended.
How long does it take to learn about penny stocks?
There is no defined time. What you do need is a willingness to learn and research.
Should I buy a stock because people are hyping it on social media?
If a stock is being hyped, it's sometimes worth your attention. But don't buy unless you see something of worth in the fundamentals.
What is the lowest price a penny stock can go?
Like all shares, penny stocks can lose their value and drop to $0.00.
Andrey Mastykin is an experienced author, editor, and content strategist who has been with Traders Union since 2020. As an editor, he is meticulous about fact-checking and ensuring the accuracy of all information published on the Traders Union platform. Andrey focuses on educating readers about the potential rewards and risks involved in trading financial markets.
He firmly believes that passive investing is a more suitable strategy for most individuals. Andrey's conservative approach and focus on risk management resonate with many readers, making him a trusted source of financial information.
Dr. BJ Johnson is a PhD in English Language and an editor with over 15 years of experience. He earned his degree in English Language in the U.S and the UK. In 2020, Dr. Johnson joined the Traders Union team. Since then, he has created over 100 exclusive articles and edited over 300 articles of other authors.
The topics he covers include trading signals, cryptocurrencies, Forex brokers, stock brokers, expert advisors, binary options. He has also worked on the ratings of brokers and many other materials.
Dr. BJ Johnson’s motto: It always seems impossible until it’s done. You can do it.
Mirjan Hipolito is a journalist and news editor at Traders Union. She is an expert crypto writer with five years of experience in the financial markets. Her specialties are daily market news, price predictions, and Initial Coin Offerings (ICO). Mirjan is a cryptocurrency and stock trader. This deep understanding of the finance sector allows her to create informative and engaging content that helps readers easily navigate the complexities of the crypto world.
