Thanks to their immense profit potential, Penny Stocks are quite well-known. But before you jump right into penny stock trading, it is best to have knowledge about the common misconceptions about penny stocks. Here are the top 4 penny stock myths.
#1 Penny Stock Companies Have Massive Profit Potential
Many investors think that investing in penny stocks is the shortcut for becoming millionaires. They believe that many penny stock companies have immense profit potential. But the fact is that penny stocks are usually exploited by unscrupulous investors, leaving genuine investors with huge losses.
Before choosing a penny stock company to invest in, remember the rule of thumb – if it seems too good to be true, it usually is! Here’s why. If the company has such a great idea or a product, they would have typically sold it to another, pocketing billions. Otherwise, they would have held a massive IPO on one of the major stock exchanges for raising capital.
#2 The SEC Would Ensure Protection
SEC ensuring protection need not be true in the case of penny stocks. Although SEC has charged Penny-Stock Operators in a push to crack down on repeat offenders, many scams are still very much prevalent. This is because penny stocks are usually not regulated with enough scrutiny to catch scammers.
Many companies listed on the pink sheets are not required to file with the Securities and Exchange Commission (SEC) and are thus not as publicly scrutinized or regulated as the stocks represented on the New York Stock Exchange or the Nasdaq.
Most penny stock companies do not prefer to comply with the small amount of regulation available. So, never choose to invest in questionable penny stocks thinking that the government would protect you.
#3 Penny Stock Prices Would Always Grow
Although some penny stocks grow rapidly from mere pennies to become expensive, quite a few of them do not! I will explain why. Most of the penny-stock companies are not run by excellent leaders like that of Apple Inc. or Microsoft. In the case of Apple or Microsoft, any decline is price soon leads to turnaround. However, penny stock companies that fall from grace usually find it difficult to climb back higher. So, if the price slides lower for a penny stock, the possibility of recovery is lower when compared to a regular stock.
#4 Only Share Price is Important
For picking out good penny stocks, you should not give importance to justify the share prices. Equal, if not more, priority should be given to the stock’s volatility and the type of order as well.
Even if the penny stock is a good one, there is no safe way to control volatility. Your stock price could whipsaw and you may hit your stop loss before surging ahead again. For instance, assume that the stock has 1000 sellers and just 100 buyers. Then, the buyer can set the price at a very low level, forcing the seller to unload his shares at a cheaper price and making the prices go down for the penny stock. Similarly, if you don’t use a limit order, it could prove to be quite expensive to buy stocks.