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Before diving into the nuts and bolts of how to buy penny stocks, it's important to recognize the reason why so many people engage in this particular type of investing. Penny stocks represent an inherently riskier, though potentially lucrative, investment option for investors.
Here's what you need to know to get started…
How to Buy Penny Stocks: Recognize The Risks
Some financial advisors consider penny stock investing akin to gambling for three reasons:
- Many penny stocks aren't openly traded on the stock exchange. This means that they aren't subject to the same degree of scrutiny and vetting that traditional stocks are subject to.
- Liquidity, or more specifically, a lack thereof, is another problem. It's not always a simple matter to find buyers for penny stocks, at least not at a profitable price. That leaves investors "holding the bag" or lowering their prices to the point that the stock is no longer profitable for them.
- Because they have a lower prices and trading volume than other stocks, penny stocks are vulnerable to manipulation by those who have less than honorable intentions.
With these risks in mind, be aware that not all penny stocks are created equally – some can be solid investments with wonderful upside potential. Additionally, there are ways investors can minimize their risk.
It all starts with research…
How to Buy Penny Stocks: Do Your Homework
Before you invest in penny stocks, take time to explore the business side of the companies behind the stocks. Learn about a company's products, outlook, and reputation. Information is your best tool for finding the true gems among the bulk of penny stocks.
Additionally, look for signs of "pump and dump" type tactics, where speculators drive up the prices by buying a large volume of a specific stock and then initiating massive sell-offs when other people begin to notice and start buying. The strategy is sometimes accompanied by an email or cold-call frenzy promoting a particular stock and promising phenomenal return on investment (ROI) to buyers who get in early. Plus, the lower the trading volume, the price, and the market cap, the more susceptible the stock is to manipulation.
Once you've landed on a promising, solid penny stock to buy, the next step is setting up the means by which to trade…
How to Buy Penny Stocks: Open a Brokerage Account
If you don't already have one, choose a brokerage account. Consider these points when opening a brokerage account for penny stock trading:
- Account minimum
- Costs per trade
- Degree of information provided (charts, historic stock prices, etc.)
- Annual fees
- Trading restrictions
- Terms and conditions
- Minimum purchase sizes
- Special fees
Make sure to compare the total actual costs of the account, rather than the simple transactional fees and costs, when making a selection.
Next – and perhaps most importantly – implement a trading strategy that minimizes risks and maximizes gains…