Understanding Penny Stocks and why it is good to know information

Understanding Penny Stocks

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While the term comes in common financial conversations across the nation, it is important to really understand the very definition of the term Penny Stocks.

What is a penny stock?

The basic understanding is that a Penny stock is one that trades at a very low price, have very low market capitalisation, are mostly illiquid and are listed on a smaller exchange.

In the context of the Indian stock market, penny stocks can have prices as low as Rs 10.

However, the potential these stocks hold are considered to be speculative in nature and are considered highly risky because of lack of liquidity, a smaller number of shareholders, large bid-ask spreads and limited disclosure of information.

Basically, playing with penny stocks is as good as playing blind as you do not know much about the past, present or future of the stock.

Why bother about Penny stocks?

The evaluation that Penny stocks hold might not seem impressive, but penny stocks have one thing that piques the interest of most investors – potential. Penny stocks are risky but have the potential of turning small investments into a fortune. A classic “rags to riches” scene can be created due to penny stocks.

Trading with penny stocks however should be done with utmost care as they are more prone to scams. Stock exchanges understand the risks with penny stocks and therefore put them in a different category altogether – the Trade-to-trade basket.

In this category, no intraday share trading is allowed. Transactions in this basket have to be compulsorily settled on a gross basis, which means that you must deliver the shares on the same day if you have sold them, or take delivery if you have bought them.

The reason why penny stocks, while dismissed by top investors around the world, gain the attention of amateur investors is simply because penny stocks hold massive potential and more importantly, it does not outweigh the risks. Investors who have penny stocks by their side avoid catastrophic losses that investors accrue often. That, however, also depends on how much amount one has invested in penny stocks, and how well is one’s research behind the said investment.

Understanding risk money and honest guides

One should only consider investing in penny stocks with risk money or those funds which you can basically afford to lose. To start off, early investors should dip their feet into low-priced waters.

An easy way to go about this is to follow someone who knows the industry well enough. While an expert may not always guide you with what’s best, they are useful in guiding you with what mistakes to avoid. You can learn from them and your profile will improve considering you haven’t made mistakes that cost you a fortune.

Wrapping it up

Understanding penny stocks can be a tricky affair to those who chase them like moths to a flame. Thorough research is needed before you venture into the realm of penny stocks which are notoriously famous for making and breaking investors in a matter of hours.

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