Penny stocks, as the name suggests, are stocks of those companies that trade with a low share price, often for less than $1. Given such a low share price, there is an understandable draw for retail investors who dream of bu🍨ying 10𝓰-cent shares and seeing them rise to ten or more times that sum.

But before dabbling in penny stocks, an investor should note several key factors that affect the way these stocks trade and have a solid understanding of the 澳洲幸运5官方开奖结果体彩网:inherent risks that follow.

Share Price and Valuation

One of the biggest mistakes that retail investors make is that they view penny stocks as being 澳洲幸运5官方开奖结果体彩网:affordable. There is a sense that one is getting a better b🎶ang for their buck when they buy thousands of shares rather than a couple of a company with a high🐈er share price.

At first glance, this thinking seems rational because after all, a $1,000 investment in Company A that trades at $0.10 allows the investor to buy 10,000 shares, rather than 10 shares of a Company B that trades at $100. A key piece of information that is often overlooked is the number of 澳洲幸运5官方开奖结果体彩网:shares outstanding.

Let’s assume that Company A and Company B shared identical fundamentals with the exception of the number of shares outstanding. For simplification, let’s also assume both companies have a 澳洲幸运5官方开奖结果体彩网:market capitalization of $100 million.

When the share price is the only factor taken into consideration, a 澳洲幸运5官方开奖结果体彩网:retail investor might think that the quality of the firm trading at $100 is much higher than the one trading at $0.10. As we’ve seen in the example, this may not always be the case since they are identical, so it is important to consider 澳洲幸运5官方开奖结果体彩网:the number of shares available.

Beware of Dilution

Another factor to be conscious of when trading penny stocks is dilution. The number of shares outstanding can often balloon out of control through the use of tools such as 澳洲幸运5官方开奖结果体彩网:employee stock options, share issuance in order to raise capital and 澳洲幸运5官方开奖结果体彩网:stock splits. If a company issues shares to 🔥raise capital, which many small companies need to do, then it can often dilute the owners💖hip percentage held by other investors.

For example, if Company A issued an extra 110,000,000 shares in an effort to raise capital, then it's natural that the share price would decline to $0.09 ($0.09 keeps the market cap steady at $100 million). In this case, the underlying business hasn’t changed. But the number of shares has, causing the share price to drop.

When trading penny stocks, it's important to find a company that has 澳洲幸运5官方开奖结果体彩网:a strong gras𓆏p on its share st༺ructure because consistent dilution erodes the v🦩alue of the shares held by existing owners.

How to Spot a Possible Winner

🌱 Most companies that trade with share prices under a dollar have relatively small market capitalizations, but as shown above, this doesn’t always have to be the case. When it comes to investing, it is important to consider the strength of the company’s fundamentals.

Does the management team rely on issuing new shares to raise capital? Is the company profitable or will it be able to turn a profit based on its current business structure? Can the company compete in its sector? For those willing to do their homework, there are definitely 澳洲幸运5官方开奖结果体彩网:gems that can be found that meet these criteria.

As you can see from the chart of GGP, Inc. (GGP), the company’s share price got battered down into the penny stock range during the 澳洲幸运5官方开奖结果体彩网:financial crisis of 2008. For those who don’t follow the company, GGP owned, managed, leased, and redeveloped 澳洲幸运5官方开奖结果体彩网:real estate such as regional malls, until it was acquired by Brookfield Property Partners in 2018. Investors who kept an eye on the share structure, underlying fundamentals, and competition could have identified GGP as a prime candidate and profited 🌃from a tremendous rise in the years that followed.

Another key factor to consider is ℱthat certain sectors are more common for finding stocks that trade under a dollar. For example, the metals and mining se💖ctor is well-known for the number of companies that trade in pennies.

Given the reliance on issuing new shares to raise capital to fund operations, increased competition, and aggressive incentive plans, it's particularly important for investors to pay attention to 澳洲幸运5官方开奖结果体彩网:the factors mentioned above in order to be successful. For th🅰ose 🌃willing to do their homework, you’ll be able to identify winners.

The Bottom Line

When most retail traders look at a penny stock, they often ignore underlying fundamentals, such as the number of shares outstanding. As is the case with all investing, it's important to examine a company’s underlying fundamentals and overlay this information with details, such as how badly the shares are being diluted through the use of stock splits, 澳洲幸运5官方开奖结果体彩网:stock options, and issuing new shares to raise capital.

Share dilution hurts existing shareholders and it's particularly common with 澳洲幸运5官方开奖结果体彩网:penny stocks. Keeping an eye on the share str💎ucture and other fundamental factors mentioned above will help investors find winners.