Hello there! Welcome the 11th episode of the Little saves podcast on Personal Finance. Join me every Tuesday to explore something interesting in the world of Personal Finance.
Today’s episode takes a look at Indian Penny stocks and what it means for you to have them in your investment portfolio. We talk about, is it worth investing in them, what kind of returns to expect, risks and more.
Needless to say, this is just a curious look into the world of finance and my thoughts should not be taken as advice to base your investments on. There are risks in investments, know wat you are getting into and if you are not sure seek professional help from registered advisors.
Let’s get into it.
What are Penny Stocks?
There is no hard and fast rule to define a penny stock. The term itself came into existence to define a bunch of shady companies that have not much of a business, but went public fooling the masses. When people realized the value of the stocks would crash to just a few paisas. New investors who see the cheap stock think that if it only increases by 10 paisa they will make a lot of profit and put their money into it. In most cases these stocks collapse and get delisted where the investor looses all their money. In some cases, the stock is picked up by criminal operators who wish to fool the market. When this happens the price of the stock increases a lot making money for the investor.
To get back to the question, in India, we have small cap companies which have a market capitalization of less than Rs.5000 Crores. There is technically no textbook defined way to measure a penny stock. In market paralances, penny stocks are looked at as stocks that are cheaper to acquire, in the range of less than Rs.30 or Rs.40.
How to pick the Best Indian Penny Stocks
There are a couple of things you should check when investing in small cap stocks. It is not wrong to buy shares of a company trading at 0.2 rupees. Just ask yourself these questions first:
What’s their business?
Does the company have a strong underlying business that will grow? Is it believable and trust worthy? How are they doing in terms of sales and profit year on year.
Check the past performance of the company? Have they been consistent in giving dividends? Does the price show any drastic drops and increases with no explanation? If there is no change in the business or the industry they work in, but the price of the stocks goes up or down erractically with no reason, this indicates operators manipulating the stock.
Value of the stock
It is possible that the stock is undervalued by others. But you check it yourself first, is the stock cheap because it is not appreciated much or is it because it is in a pile of debt beyond recovery?
Don’t trade them Pennys
Due to the above explained liquidity factor, their cheap and manipulatable nature, there is a lot of risk in day trading or even to trade penny stocks in the stock market. Ignore advice from online brokers who suggest best online strategies or share best time to buy penny stock. They wish to earn commission off your money.
If you wish to make money off fundamentally good penny stocks, instead of trading penny stocks for the short term, find best penny stocks and hold them for the mid to long term. If the company is good and you have done your research, you will get your pay out.
Risks of investing in Penny Stocks
Easily to manipulate – Operator stocks
This is the most important factor that keeps most people away from penny stocks. As the value of the stock is very little, it is possible for someone with deep pockets to manipulate the price of the stocks. First off, since the penny stocks are of companies that are not so popular, the liquidity is very less. Meaning, the number of stocks that are actively traded is less. So it is possible for someone to keep buying available stocks at a high price every day and mop up the market. As the price starts increasing drastically, people flock to it thinking there is something going on.
Once the price is high enough the operator would dump the stocks making a profit. The public who rushed in later would have no clue and would be buying a stock 10 times the actual price. Later it would drop again as no one would value it.
A word of caution
Investing in general is a risky affair. Investing in penny shares or buying penny stocks is even riskier. I personally set aside about 10% of my stock portfolio (which happens to be about 25% of my total investment portfolio). I maintain my investments in penny stocks for the mid term period to maybe even as longterm investment.
Understand what you are getting into. Penny stocks may fuel your dreams of becoming a millionaire overnight, but it just does not happen that way. Never take a risky bet with the intention of making money quick and easy. Indian penny stocks are companies after all. There are Indian companies in them, that employee people and feed families. These companies too have a bright future under the right management and right economic and political conditions. Try to see the intrinstic value in that and invest in them.
That is it for today folks. Thanks for listening. Do you have any penny stock that made you loose your money or became a multi-bagger giving you lots of money? Please mention in the comments. We would all like to know. Thank you bye bye.
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