The term "Penny stock" originated in the US for stocks trading at a very low price, generally below $5 with low market capitalization. In the context of Indian stock market, the share price of penny stocks could usually be below Rupees 10. Penny stocks are assumed to have fluctuating share prices hence making them quite risky and unpredictable as far as investment in them is concerned. Most investors tend to succumb to their temptation of investing in penny stocks due to low market price of these stocks. However, it is wise to exercise caution and read up on the companies to invest in, before making an investment decision.
Most companies offering penny stocks have low market capitalization which is below 100 crores. In addition to this, these companies are not well researched as they do not reveal much information about themselves, creating room for speculations. Therefore, penny stocks tend to have high risk and low liquidity.
Low share prices of penny stocks enable investors to buy large volumes as low volume means low liquidity. However, it is imperative to zero in on a good penny stock, if the investor is looking for higher returns. This can be a bit difficult since penny stocks are not known to many investors. Lack of information regarding penny stocks could make things harder and might as well be a very big hurdle for retail investors. Penny stocks have immense wealth creating potential but it comes along with a high amount of risk. Low share price should not be the only reason attracting investors to it; that is where caution in investment comes into play.
Share price of penny stocks may not be relevant. However, investors must ensure that they are well informed about the company management and potential of the business. Investors should focus on the value and not on the share price. This can be identified by understanding the services and products offered by the company. Also, looking at financial management of the company, checking a few company fundamentals such as debt would yield useful results to investors helping them decide whether or not to invest. Penny stocks are also prone to scams and manipulation by brokers and company promoters owing to their low price and volume. Therefore, investors must do their own research about companies to avoid falling into the trap. It all boils down to company value and future prospects that come along. Thus, meticulous research about companies is the way to go as the company details come in really handy. Since penny stocks are extremely high risk, investors should consider only a small chunk of their total investment amount in them; probably less than 10 percent. However, once investment in penny stocks has been done, investors should care to keep a check on the movement on a consistent basis as penny stocks are very volatile in nature. Keeping a track record of investments is a good thing to do, because this helps investors to get rid of poorly performing stocks while retaining the ones which perform well and then buy more of them gradually. There is no substitute for constant monitoring though. This keeps the investors on their toes.
Investors should remember not to over invest when stocks perform tremendously fine or quit all of a sudden if they perform badly. The key here is not to resort to extremes and to stay disciplined for achieving that balance in your investment plan.
Given that, penny stocks are a high risk wealth creating instruments, investors with high risk appetite may consider investing in them. However, if not approached with an open mind, penny stocks could be devastating too. Therefore, a good amount of careful research without being too speculative should ideally be the right way to go about it, when it comes to investment in penny stocks. Investment in penny stocks is neither good nor bad; investor's approach makes it so. So, be a prudent investor!