Penny stocks - 5 things you must know before investing

Penny Stocks are those which trade at very low price and has a low market capitalization. While there is no simple definition, penny stocks in India generally trade at Rs 0.05 to Rs 10 per share. Individuals invest in these penny stocks and lose money as their share price is highly fluctuating. What should an investor know before investing in Penny Stocks in India?

5 things you must know before investing in penny stocks in India

1) Don’t look at the share price, but look at the value: Penny stocks are available at a relatively low share price. Share price would tempt investors to buy in such stocks. For example, Infosys stock price is Rs 2,180 per share. On the other hand, one of the penny stocks like GV Films is Rs 0.58 per share. Now if you have Rs 10,000 to invest, you would get only 4 Infosys Shares, while on the other hand you would get 17,240 shares of GV Films. Here one should not think how many shares they are getting, but what value these stocks offer.  I am not saying this penny stock is good or bad, but an investor should assess how good such a stock is before investing in such stocks.

2) Low volumes means low liquidity: Several Penny stocks generally trade at low volume. Means if you want to sell and come out, there might not be any buyers.  Hence invest in penny stocks that has high volume so that you can liquidate if required. E.g. Odyssey Corp share price is Rs 4.23 and avg trading volume is 24,200 shares only. The maximum amount traded is only Rs 1 Lakh. Such stocks have less liquidity as it would depend on demand from buyers.  

3) Upper circuit and lower circuits: Penny stocks have upper circuit and lower circuit. Upper circuit means a stock price cannot increase beyond a pre-determined percentage move. Generally it would be 5% to 10%. Lower circuit on the other hand means a stock price cannot reduce by specified percentage. As an investor, you should know that you cannot double your money in a short span, just because a stock has locked in upper circuit for couple of days. Penny stocks may see upper circuit for a few days and can see the lower circuit by few days based on demand from buyers.

4) Brokers / Promoters can manipulate share prices: Since penny stocks have low volume, share prices for such stocks can be easily manipulated by market participants, stock brokers or promoters of the company. If a penny stock price is reaching upper circuit every day without any news about the company, it clearly indicates that someone is manipulating the share price. As an investor if you hear a positive news about the company and think the future prospects are good, you can invest in a company irrespective whether it is hitting upper circuit or not.

5) Ignore success stories: Many stock brokers, websites, blogs, etc. indicate a success story about penny stocks. While these look good, no one want to talk about hidden stories about investors losing money on penny stocks. Many brokers charge high fees, giving penny stock recommendations indicating a success story saying a penny stock raised by 100% or 500%. Investors fall for that trap, invests and loses money. As an investor, you should understand why a penny stock price has gone up, the reasons behind that and future prospects. If you are convinced by this, you can adopt similar strategies for other penny stocks and invest based on such strategies.