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Back to the basics, Penny Stocks 101

Jeff WilliamsJeff Williams ·

Penny stocks have gotten a bad reputation for being dangerous, but they’re not that way if you know what to look for.

That’s not to say there aren’t some shady penny stocks, but there also are reputable companies with real upside potential, even though they don’t meet certain exchange requirements (like the ones required to be listed on the NYSE and Nasdaq).

But even those exchanges have penny stocks, and those are the ones you will most want to look at. That said, there are things to know when analyzing and potentially trading penny stocks; welcome to Penny Stocks 101.

Penny Stock Defined

Many market participants believe a stock must trade at less than $1 to be considered a “penny stock,” but that’s not the case. A penny stock is simply a stock that trades below $5 per share.

There’s a big difference. Look in the wrong places — often at the cheapest of stocks — and you can get caught up in a penny stock with wide bid-ask spreads, low liquidity and limited disclosures.

That in mind, look for penny stocks that must follow stringent requirements, such as those traded on the biggest exchanges, where they can only stay on board by reporting and updating financials regularly with the Securities and Exchange Commission. Penny stocks traded over-the-counter face lower reporting standards; because stocks on the OTB Bulletin Board are not registered with the SEC, they aren’t subject to the same listing requirements, they may provide much less information — and at irregular intervals — for the market to analyze, creating a higher degree of uncertainty and risk.

How to Look for Penny Stocks

Beyond understanding all the risks in penny stocks, look for a broker that allows for penny-stock trading with low-transaction costs. Once you’ve shopped around and found someone who can execute your trades efficiently, go looking for “penny stocks” to trade.

On finviz.com, for example, simply look for stocks trading under $5. You can add more filters, such as companies domiciled in the U.S. and stocks with a certain level of average daily volume. Take a look at this filter:

Source: Finviz

Notice that this list only includes stocks listed on Nasdaq with an average daily volume of over 750K, currently trading under $5 per share. You’ve got stocks with regular disclosure of their financials and enough liquidity to feel comfortable trading; while you haven’t eliminated risk or potential losses, you’ve gone a long way to eliminate the shady, dangerous securities.

Final Thoughts

This is a quick intro into the world of penny stocks. Before getting started, understand the risks behind trading or investing in penny stocks. Keep in mind that penny stocks aren’t for everyone, and you’ll need to have a high degree of risk tolerance before considering them.

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  Jeff Williams is the lead trader of PennyPro.com. He is a short-term trader of stocks under $10 a share. You can view his seminar on Entry, Exit, Level 2 and Controlling Emotions (Here)

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