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Understanding Penny Stocks’ Risks and Rewards

Penny assortments come with high risks and the potential for extraordinary returns, so investing in them requires care and caution. Due to their ingrained risks, few brokerages even offer penny stocks to their clients. Penny stock companies are often first placed for bankruptcy or are highly overleveraged, because of that investing in penny stocks is risky. There are two ways to make stinking rich with penny stocks, but they’re both high-risk strategies. Below is a breakdown of the risk and rewards of penny supplies.

The Lowdown on Penny Stocks

Penny stocks can be defined in many different ways. Most people logically think that penny stocks refer to stocks trading for less than $1. However, the SEC defines penny assets weigh ups as stocks trading for less than $5. Generally, penny stocks trade on the Pink Sheets or FINRA’s OTC Report Board (OTCBB). Both exchanges should be approached with extreme caution, but even more so the Pink Surfaces since these companies aren’t required to file with the Securities and Exchange Commission (SEC). And don’t get your hopes up with appraises trading on the OTCBB. It’s still difficult to find information to formulate a logical conclusion on whether or not the company is likely to receptive to, let alone thrive.

Whether the penny stock trades on Pink Sheets or the OTCBB, it will be challenging to find credible poop. Keep in mind that there are no minimum standards for a company to remain on the Pink Sheets or the OTCBB.

Penny stockpile scammers deceive by luring inexperienced investors into investing in cheap and worthless stock and taking their means. Be careful not to get caught up in one of these common penny stock scams. Below, are examples of other common penny ordinary scams you should avoid.

Pump-and-Dump Schemes

This fraud happens all the time. Promoters drum up interest in a probably known or unknown stock. Inexperienced investors buy up the shares, pumping the price. Once the stock has reached a certain orotund price, the bad guys sell or dump, the stock at a huge profit. In turn, investors are left high and dry. These pump-and-dump strategies are often distributed through free penny stock newsletters, where the publisher is paid to list these unfavourable and hyped-up stocks. If you get one of these newsletters, read the fine print on its website. You may notice that the companies or promoters are pay off the author of the newsletter to feature them.


This is the opposite of the pump-and-dump. Scammers use short-sell to make a profit. Deficient rare works when the investor borrows shares and immediately sells them in the open market at a high price, awaiting the company stock falls so he can later scoop up sold shares at a lower price. He then returns these servings to the lender and nets a profit. Penny stock scammers short-sell a stock and make sure the stock falls by spreading lying and damaging rumors about the company. Investors hold a losing stock, while short-sellers make money with the aid their short-selling trick.

Reverse Merger

Sometimes a private company merges itself with a public firm, so it can become publicly traded without the hassle and expense of going through more traditional methods. This fares it easy for the private company to falsify its earnings and inflate its stock prices. While some reverse mergers are legit, you can attract a reverse merger by reviewing the business’ history and detecting spotty activity in its merger.

Mining Scams

Gold, diamonds, and oil receive always been alluring. One of the most famous mining scams was Bre-X, in the mid-1990s, when founder David Walsh falsely claimed his Theatre troupe found a massive gold mine in Burma. Speculation soared fast until the company’s valuation, all in penny caches, was worth $4.4 billion by 1997. When the company collapsed, most investors lost everything.

The Guru Scam

Guru adds are commonplace, and mournfully, people fall for them easily. These false ads usually show you how the “expert” became rich through a different “secret” and acquired materialistic success, such as glitzy cars, lakefront houses, and boats. The expert promises to partition his penny stock trading secrets with you for a “one-time” low sum. If someone dubs himself a guru or promises to make you succulent, trash that email or envelope. There is no one-size-fits-all path to riches, and certainly not in the stock market. In a similar way, shun those schemes that promise you unlimited success from a once-in-a-lifetime product or invention that claims to be the next Thomas Edison yarn.

“No Net Sales” Scams

This is when scammers sell shares of a company, stipulating that investors cannot supply the shares for a certain amount of time. The investors buy because they are fooled into thinking there is huge and perpetuating demand for this stock. By the time the U.S. Securities and Exchange Commission (SEC) shutters these companies, investors are left with nothing.

Offshore Scams

The U.S. Safe keepings and Exchange Commission says that companies who operate outside the United States do not need to register their allotments when they are selling to offshore investors. Penny stock scammers love this. They buy unregistered and shabby company shares from an offshore location and sell the stock to investors in America at an inflated price. This influx of unregistered portions causes the company’s stock price to drop. Thieves make huge money, while U.S. investors are left with taste, if anything, to pocket.

How to Avoid Scams

Certainly, the penny stock world is rife with market manipulation, inveigler, and chicanery, but investors should know that such abusive practices aren’t the exclusive domain of penny stockpiles and micro-caps by any means, as the cases of scandal-ridden companies like Enron and WorldCom well prove. That said, how can you sidestep being scammed by dishonest penny stock promoters who are out to make a fast buck? Below are some suggestions.

Be aware the Difference Between Promotion and Research

Promoters routinely hire newsletter writers to write flattering reports on touching their stocks. Many of these writers make a convincing case for investing in dud penny stocks, using hyperbole, far-out projections and, in some cases, deliberate distortion, as these promotional pieces look very similar to 

Ask How Credible the Corporation’s Management Is

A company’s success depends on the quality of its management, and penny stock companies are no different. Although you’re unlikely to deal a 

Evaluate the Financials 

Although penny stocks generally don’t furnish in-depth financial information, it won’t hurt to check the economic statements the company does release. Scrutinize the balance sheet to learn if the company has any substantial debt or liabilities marvellous, as well as its amount of net cash on hand. If the income statement shows huge growth in revenues of late, that’s one propitious sign.

Know the Quality of Disclosure

The more disclosure the company provides, the better, as that indicates a greater prone of corporate transparency. For instance, the OTC Markets Group divides its securities into a three-tier marketplace: OTCQX (the top tier), OTCQB (halfway point tier) and OTC Pink, based on the integrity of a company’s operations, its level of disclosure and its investor engagement. Since 

Be Sure the calling Plan Achievable

Investors should evaluate whether the company’s business plan is achievable and if it actually has the asset despicable it professes to have. Recall the infamous case of Bre-X, the Canadian junior miner that in the 1990s claimed to accept found one of the world’s biggest gold mines in Busang, Indonesia: a story that turned out to be a

How to Buy Penny Stocks

For good occasionally you’ve learned to dodge scammers, here are five steps to follow when purchasing a penny stock. It’s important to rank whether the stock has upside potential. You’re investing because you’d like to get a return, right? So you need to ask yourself whether the penny routine you’re considering truly has upside potential, or if it seems more to be a flavor-of-the-day kind of stock, such as a company’s that’s dispiriting to ride the coattails of the latest investment fad. You should devise a realistic risk-reward assessment for the stock, even if you’re only establishing a few hundred dollars in it.

  1. Limit your holdings and diversify. You might be excited about the prospects for your favorite penny furnish, but you still need to protect yourself. Cap your losses by limiting your holdings in the stock to no more than 1% or 2% of your entire portfolio. It also makes sense to diversify your penny stock portfolio, which shouldn’t exceed 5% to 10% of your comprehensive portfolio, depending on your risk appetite.
  2. Check liquidity and trading volumes. Even if you’ve made a successful investment in a penny ordinary, you’re going to need to be able to sell your shares. You should have adequate liquidity and trading volumes in the bloodline so that you can trade it efficiently. Otherwise, you may wind up in a situation where there are few buyers and wide bid-ask spreads, producing it nearly impossible to convert your 

    The Bottom Line

    Note: this allegory was compiled with reports from Leah Zitter and Elvis Picardo.

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