Topic: Penny Stocks

Even The Best New Penny Stocks Can expose you to these risks

penny stock risks

Investors looking for the best new penny stocks have to realize that many pennies are nothing more than stock promotions or well-executed marketing campaigns

It’s hard for any new company to grow into a profitable business, and it’s even harder in pioneering fields. But it’s relatively easy to launch a stock promotion that purports to have answers to environmental problems, finding a mineable mineral deposit or ways to profit from emerging technology.

Even the best new penny stocks can also fall into this scenario, and investing in them can lead to portfolio losses.

Are Penny Stocks Worth It?

Learn everything you need to know in 'Canada's Penny Stock Guide' for FREE from The Successful Investor.

Canadian Penny Stock Guide: Find where to find Penny Stocks that pay well.

Some of the best new penny stocks may have conceptual appeal but they aren’t immune from these risks

Penny stocks can be more easily manipulated than most stocks that trade on exchanges. That’s because of their generally low trading levels and resulting price volatility. When you combine this with the lack of regulatory oversight on some stock exchanges and the fact that it is easy to launch these companies, you can see why investment fraud is more common with penny stocks.

Some investors think the best way to profit with the most active penny stocks is to buy them when they are just barely starting out on a growth phase they hope that will last for years if not decades. Ideally, they want to buy the future top performers when they are still near or close to the penny stock range and have yet to be discovered by the broad mass of investors.

And it’s true that when you buy penny stocks you could have a big payday if you make the right choice. But the odds against success are high.

Penny stock bubbles have helped investors profit, however, when the bubble bursts, prices of low-quality stocks inevitably come crashing down.

Some of the supposed best new penny stocks could be sponsorships or marketing campaigns in disguise

Penny stocks do sometimes pay off, but there are many pitfalls to avoid. You should be aware that many penny stocks are little more than very well executed marketing campaigns. Penny stock promoters will do anything in their power to get their penny stock noticed. These extensive marketing campaigns include emails, TV interviews, podcasts, newsletters and paid sponsorships.

There are also some so-called news sites that will sell sponsorships to penny stock promoters. These are great opportunities for penny stock promoters but bad for investors looking for an unbiased opinion on a stock.

Trading online can make it easier to lose money—and more so with new penny stocks, even the best among them

Some investors who trade stocks online use automated stock-picking systems to help them make investment decisions. These systems are typically marketed with impressive-looking performance records designed to make investors think they are sure to make guaranteed profits. However, those records are typically derived by “back-testing” the program against past data. In other words, the promoters go back through old trading records and see what would have worked in the past.

This random element can be profitable for short periods. But you can’t reliably profit from it over the long term. In fact, most short-term traders wind up losing money. By the time their beginners’ luck fades, many are trading in dangerously large quantities.

Frequent trading can also lead you to buy lower-quality, thinly traded stocks. The danger arises from the fact that the bid and ask spreads of many of these investments can be so wide that the share price will have to go up significantly before you’ll even begin to make money on a sale.

You can make trades quickly in online trading, and that cuts your commission costs. However, for successful investors, this is a bonus, not the object of trading stocks.

Bonus tip: Follow our Successful Investor approach for the best long-term portfolio returns 

To achieve the best long-term results, we think you should stick with our three-part Successful Investor philosophy:

  1. Invest mainly in well-established, dividend-paying companies, with a history of rising sales if not earnings and dividends.
  2. Spread your money out across most if not all of the five main economic sectors: Manufacturing & Industry; Resources & Commodities; Consumer; Finance; Utilities.
  3. Downplay or avoid stocks in the broker/media limelight. When stocks spend time in the limelight, they tend to become overpriced, and this leaves them vulnerable to a sharp downturn on any hint of bad news. Instead, look for stocks with hidden value that are less widely recognized—at least so far—as attractive investments.

The third element in our strategy is crucial in avoiding stock scams. Penny stock promoters focus on companies that aren’t likely to go anywhere once the media attention shifts. It takes a lot more than that attention to create a profitable business or investment. But if you let the media hoopla taint your investment decisions, you increase your risk of blundering into a promotional stock.

How have you protected yourself against penny stock promotions in the past?


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