by Jeff Reeves | July 12, 2012 6:15 am
Well, it’s been a few weeks, so I feel the need to take another painful visit to the penny stock mailbag. Previous episodes include how to find 14,849% (or go bankrupt) and why low volume trumps everything else.
This time, Debra writes: “RE: Save the World Air (OTC:ZERO)? Is this a scam or does this have real potential? I’ve invested a lot of money over the last 6 years and, well, nothing but lots of hype. What do you know if anything?”
For starters, any stock that revs up the hype machine so much to claim they are going to “save the world” in their own company name immediately sets off warning bells.
But here’s what I know, in various levels of detail, depending on how curious you are:
This might be an actual company, but for investors, it’s as good as a scam — so get out.
Save the World Air is a microcap stock (also known as a penny stock in the pejorative sense, even if it trades for more than a penny) that trades over-the-counter instead of on a major exchange and suffers painfully thin volume. In my experience, 90% of OTC investments are a joke — and 100% of all investments with a market cap of under $100 million are perilously risky. These investments are nothing but all-out gambles and are no different than a casino. If you like the thrill of putting “a lot of money” on the roulette wheel and letting a bouncing ball decide your fate, then by all means stick it out with ZERO. But if you can’t afford to lose all your money — which you very well might — get out of this stock.
What does it mean for a stock to trade over-the-counter or on the “pink sheets”? Well, it means that a stock is not a member of a respected exchange like the NYSE or Nasdaq that demands universal accountability for listing in the form of a minimum share price and regular reporting. The OTC and pink sheet arena is the Wild West of the stock market, where you don’t have as much information at your disposal.
Considering that publicly traded stocks like Enron had no problem cooking the books — or that companies like AIG (NYSE:AIG) had no problem hiding their true risks until it was too late — that should strike fear into the heart of any investor who is trying to analyze a company based on fact and not fiction.
To be sure, there are some decent pink sheet stocks out there that just don’t care to follow U.S. exchange rules. But typically, they are listed elsewhere in the world. Take Switzerland’s Nestle (PINK:NSRGY) or Germany’s Volkswagen (PINK:VLKAY) or Japan’s Nintendo (PINK:NTDOY). They follow the reporting and disclosure requirements of their home markets — which just so happen to be as stringent (or perhaps more so) than stocks listed on the NYSE.
That’s why I say just 90% of companies listed off a major exchange are bunk. There are indeed outliers.
So how do you know when you have a decent stock or a risky gamble? Simple: Size matters, especially regarding volume.
Consider that your microcap Save the World Air trades only 100,000 shares or so daily and is crazy volatile at 40 cents a share, and you’ll quickly come to understand that this stock doesn’t trade based on any facts or fundamentals 99% of the time. It swings based on volume. After all, a $10,000 order represents 25% of all shares that are traded on a typical day. It’s easy to see how one buyer or seller can tip the scales on ZERO stock prices without much effort. (If this is a bit hazy, read more about volume here.)
Nestle trades more than 450,000 shares daily at about $60 a pop. You’d have to invest $6.75 million to grab 25% of the volume in that pick.
Nestle also has a market cap of nearly $200 billion, so you can be sure this is a “real” company. Save the World Air? A mere $50 million market cap. That’s way too small and way too risky.
I sometimes get maligned by penny stock and microcap investors for making blanket statements that all companies this size are a gamble and nothing more. So allow me to give my expert commentary on the stock based on the merits of its balance sheet:
Save the World Air by it’s own admission generates almost zero revenue and is bleeding cash. Check out the investor information on its site here, where I took this screenshot.
You know you’re in trouble when a company needs to look back 171 months just to record a paltry $69,000 in sales.
It has an operating cash flow of about -$4 million. Its EBITDA is -$8.5 million. Considering this stock has a market cap of just $50 million, that’s insane.
Deb, I would tell you to run screaming from this stock, but I’m afraid that will make you dump your shares all at once. That would undoubtedly cause the stock to crash, and you’d push share prices down for other investors who bought in out of naivety, crazed optimism or greed.
And for the record, I do not have a stake in this or any related company. I am not trying to profit from this in any way — I just want to protect unwary investors.
Please bleed down your position a little at a time, maybe $2,000 or $3,000 a transaction using limit orders to protect your sale price.
And never — EVER — buy another penny stock. If you want to gamble, stick to roulette, slots or blackjack. At least you get free drinks.
Jeff Reeves is the editor of InvestorPlace.com and the author of “The Frugal Investor’s Guide to Finding Great Stocks.” Write him at email@example.com or follow him on Twitter via @JeffReevesIP. As of this writing, Jeff Reeves did not own a position in any of the aforementioned securities.
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