Penny stocks are a popular way for many folks to invest.
But that’s a problem, because penny stocks also are a highly volatile and risky asset class that have left many investors in tears over the years.
The risks of penny stock investing are so acute, in fact, that the U.S. Securities and Exchange Commission has a host of resources and publications to ensure investors know what they are getting into. One such SEC webpage on penny stock rules warns the following (emphasis theirs, not mine):
“Penny stocks may trade infrequently, which means that it may be difficult to sell penny stock shares once you own them. Moreover, because it may be difficult to find quotations for certain penny stocks, they may be difficult, or even impossible, to accurately price. For these, and other reasons, penny stocks are generally considered speculative investments. Consequently, investors in penny stocks should be prepared for the possibility that they may lose their whole investment (or an amount in excess of their investment if they purchased penny stocks on margin).”
This is only the beginning of your risk if you invest in penny stocks, however.
From Suspect Investment to Outright Scam
Even worse than buying shares of a legitimate company that goes bankrupt is the idea of plowing your hard-earned cash into a penny stock scam, where no real business actually exists.
That’s what happened to investors last year who bought into a sophisticated penny stock scam ring, and were fleeced out of $140 million because they believed in a “revolutionary” fertilizer company called Resource Group International.
Think the 2000 movie Boiler Room. Well, that kind of stuff isn’t fiction.
I personally don’t ever invest in penny stocks because of the volatility and risk. Nor do I recommend any other investors do so because there are plenty of alternatives out there with better liquidity and transparency than microcaps trading on the pink sheets.
But hey, I also don’t smoke cigarettes or race motorcycles. What you choose to do with your money, on your time, is your own business … and if you’re comfortable with the risks, then it’s not my place to judge.
If you are investing in penny stocks, though, here are a few tips I think you should review to ensure your investments stay out of the hands of fraudsters:
Beware False Products, Not Just False Promises: Fluffy marketing about your product is one thing, but faking contracts or referring to a big deal that never happened are other matters — and against the law. Many companies claim to have products that will “revolutionize” an industry, and false promises are sadly just a way of the advertising world. But research what you can, where you can to ensure that the products themselves are real and that revenue actually exists somewhere.
Shun Celebrity Investment Tips: Penny stocks aren’t above paying someone to tout their company. Daniel “Rudy” Ruettiger of Notre Dame walk-on fame paid $382,866 (though did not have to admit guilt) in a settlement for his antics in a tiny sports drink company called, obviously, Rudy. Rapper 50 Cent was paid to talk up a penny stock on Twitter. Again, marketing is one thing … but there’s a big difference between William Shatner telling you to book a flight on Priceline.com (PCLN) and William Shatner taking to the airwaves to tell you explicitly to invest in PCLN stock.