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The term penny stocks generally refers to any
stocks that trade outside the major stock exchanges and is taken as
'deprecatory'. The major stock exchanges would include: NASDAQ, AMEX, or
NYSE. The term Penny stock is also often used interchangeably with small
caps and nano caps. The title of penny stock however should be determined
by the share price rather than the listing service or market
capitalization.
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Penny
stocks often have market caps lower than $500 million. This makes it
highly speculative for those who trade low volumes 'over the counter'.
Some believe that penny stocks are difficult to sell once purchased
because of the difficulty in locating quotes on particular penny stocks.
Investors in these stocks are expected to understand that the loss of
their entire investment is a viable risk.
Despite the risks involved, penny stocks are attractive to new investors
because of the low initial price and the possibility of quick payouts of
up to 100 percent in some circumstances. Just as there is the potential of
high profits, that potential comes with the risk of substantial losses.
Penny stocks are considered high-risk investments. As a result investors
should be aware that these stocks have a limited amount of liquidity and
fraud in addition to a lack of financial reporting.
Penny stocks have fewer shareholders. This makes them less liquid than
stocks of larger companies. It also means that it will buy and sell less
shares. The fact that less shares are traded generally results in
unpredictable stock prices. This can either make the prices rise sharply
or suddenly decline. The lack of liquidity within this market leaves it
wide open to exploitations by market makers, management, and other
parties. These stocks can also be difficult to sell quickly as some days
there simply are no buyers.
Another reason for this lack of liquidity is the minimal listing
requirements for smaller market listings as compared to NASDAQ or NYSE.
Companies that have fallen below requirements for the larger exchanges
have the opportunity to get listed on the OTCBB or Pink Sheets.
If you are comparing Pink Sheets to the major exchanges you might want to
take note of the fact that Pink Sheets have very few regulatory
requirements for those being listed. In other words, there is little
protection in place for shareholders by way of accounting standards,
notifications of ownerships of shares, etc.
These things combined make penny stocks very attractive tools for fraud.
This does not at all mean that all stocks listed on the OTCBB are
untrustworthy, it simply means that you should keep your eyes open when
making deals on this market
By: Christopher
Smith
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