The underlying companies are highly speculative. Usually, they have never had a penny in profits; quite often they’ll never have sold a dime of product either. And, of course, they trade for less than $1 a share. Hence the moniker “penny stocks.”
So why would you ever buy a penny stock if the underlying companies are so often unsuccessful? I won’t get into it here, but there are a handful of penny stock myths that lead to investors pulling the trigger and betting on a longshot.
Penny stock myth No. 1: “These companies have big potential.”
Don’t get sucked into that. Here’s how to spot a surefire scam.
You Receive an Unsolicited Tip/Offer to Buy
That’s it. It’s really simple. When someone you don’t know approaches you out of the blue with “the scoop” on a penny stock — “I haven’t seen an opportunity like this in YEARS!” — you can be almost certain you’re being conned.
It is the closest thing to certainty that you’ll ever see in the stock market: Whatever penny stock you get an unsolicited tip on will lose you GOBS of money if you choose to buy in.
Naturally, this tends to happen over the Internet. It’d be a weird thing indeed if someone accosted you on the metro jabbering about a penny stock that could make you millions, wouldn’t it? Well, maybe that’s par for the course on some metros, but you’d still try to get away from them.
You definitely wouldn’t give them $1,000 and happily walk away with a stock certificate.
But remember, that’s exactly what unsolicited penny stock promotions are — the only difference is they’re digital.
“But it’s not like you’re buying penny stocks from the promoter, he’s just telling you about them,” one might argue.
No, it is like that. Quite often, the people promoting penny stocks to perfect strangers are participants in a pump-and-dump. They buy the worthless stock, tell the world about it, then sell out to the poor souls who assumed they were honest people to begin with. It’s disgusting, it’s predatory, and it’s illegal. But it still happens.
The Power of Observation
I’ve been writing about the stock market every day for the last three and a half years. I’ve received dozens of emails from penny stock promoters touting the next big 10,000% gainer. I have watched every single time, without fail, as the stock they promoted imploded.
Occasionally there will be a pop in the stock in the days (rarely is it weeks) following the pitch. But check back three months, six months, 12 months later? Invariably they’re way down, delisted or stagnant on no volume.
Not once have I checked and seen a winner.
Recently, I got hit up on Twitter (TWTR) in a somewhat cryptic tweet from a random Twitter handle.
This eloquent tweet informed me that there was a “Mega-alert” on Daniels Corporate Advisory Co Inc (DCAC). “Rating 5 Stars,” it said. What was the alert for? Who rated the stock on what scale for what quality? For some questions, we may never know the answer.
To be clear, I’m not saying anything about Daniels Corporate Advisory as a company, or anyone associated with it for that matter. If one were to put it to the test though and look at its financials, it makes sense DCAC is a penny stock. With $0 in revenue in its last two quarters, it fits in with a lot of penny stocks out there.
What I am saying is that the general pattern of:
1) Receive unsolicited penny stock endorsement.
2) Watch said penny stock plummet.
Both are holding up in this case.
I received the endorsement tweet after the stock market closed on Oct. 21. The closing price of DCAC was $0.03. As of Oct. 30, DCAC’s price is $0.0168 — or 44% lower than it was at the time of the tweet.
Never, never, NEVER buy penny stocks because a stranger cold calls you about them. In fact, an even better rule of thumb is to not touch them at all.
As of this writing, John Divine did not hold a position in any of the aforementioned securities. You can follow him on Twitter at @divinebizkid or email him at firstname.lastname@example.org.