The risks of investing in penny stocks

Many small investors and many speculators love to invest in penny stocks.


What exactly are penny stocks?

Penny stocks refer to those shares selling at less than a dollar per share. In the context of Singapore Stock Exchange, we can see more penny stocks than blue chips.

What are blue chips?

Blue chips refer to the stocks of established and stable big companies. Google is an example of blue chip stocks. You need to pay a few hundred dollars just to buy a share of it.

For many small investors, buying penny stocks is more affordable. They also think that penny stocks have less risks since they are using very little cash.



However, that mentality is wrong. Penny stocks investment is inherently more risky than blue chip investment.

You are not likely to see analysts paying attention to penny stocks. They are more likely to pay attention to blue chips. That is why you do not know about any problem in the management until the stock is delisted.

The only exception in Singapore stock market is the share price of Genting. Except for a few weeks that Genting rises above a dollar, most of the time Genting is a penny stock.

Due to the nature of the business, Genting is a popular choice for many speculators in penny stocks.

Even most speculators shy away from penny stocks of China companies. After a few scandals involving the penny stocks of China companies, leading to the bankruptcy of the companies, many investors do not dare to invest in penny stocks of China companies. These are commonly known as S-chips.

Penny stocks are risky in another sense. The daily fluctuation is huge. Most penny stocks overreact to good news and over react to bad news.

While it is possible to get lucky with penny stocks investment, when the share price increases 10 times or more, it is equally likely to see the value dropping to just 10%.

Once the penny stocks drop from 30 cents to just one cent, it is very hard for the investors to recoup the capital. The penny stocks may take years to get back to the value of 30 cents per share.

That is why many speculators are willing to bet heavily on penny stocks. They buy and sell within a few hours or a few days. They do not want to hold the penny stocks even if the company is doing well.

They employ a hit and run tactic in penny stocks investment.

If you are a small investor, it is better to invest in a fundamentally strong company. Even if you participate in penny stocks, you need to find companies that are financially sound. The risk of delisting and bankruptcy is minimize in such a company.

If you like the thrill of speculating in penny stocks, please do not use all your capital. You do not want to lose your retirement funds when penny stocks investment turns bad.