Penny Stocks: Meaning, Features & How to Invest in Penny Stocks

“If you invested in ABC shares 20 years ago, you’d be a millionaire now.” How often have you heard this and wished you knew the potential of certain stocks to make the right investment today? 

Well, all these stocks had been trading in pennies before their prices skyrocketed because of changes in the market. And although not all penny stocks blow up, many investors are willing to bet on the prospects. If you’re wondering what penny stocks are and if they’re worth investing in, you’re at the right place. Let’s break it down to find the answer.

What are penny stocks?

In India, penny stocks are stocks of companies that have a low market capitalisation and are traded at very low prices. Based on the market capitalisation, these stocks are also called micro-cap, nano-cap, and small-cap stocks. The price of Indian penny stocks ranges between Rs. 0.01 and Rs. 10. 

These stocks are highly volatile as they are traded in low volumes and provide low liquidity. Indian penny stocks are mostly listed on smaller exchanges, and it’s almost impossible to forecast their price movements.

Features of penny stocks

- Low liquidity: Penny stocks are traded in small volumes. As such, they often have low liquidity, making it difficult to buy or sell them quickly.

- High risk and return potential: Penny stocks come with high risk but also have high return potential if the company performs well.

- Unpredictable pricing: The prices of penny stocks can be highly volatile as they are affected by various factors like market sentiment or even small trades.

- Multibagger opportunities: Penny stocks have the potential to become multibaggers if the company grows significantly.

Advantages of penny stocks

Now that you know what penny stocks are, let’s look at the benefits of investing in them.

- Inexpensive

As penny stocks are traded below Rs. 10, you won’t have to make a significant investment, especially if you’re a beginner. When you invest in a blue-chip stock, you must shell out a lot of money to purchase a huge volume. But with penny shares, you can invest in a huge volume at a fraction of the cost.

- High returns

Most new and small businesses usually start by issuing penny shares. When you invest in these companies before they become successful, you can enjoy massive returns. If you research in-depth about the company and its finances, you can make huge profits. But to fully realise the potential of the stock, you must stay invested for the long term.

- Possibility to make profits overnight

If the company you invested in suddenly hits the limelight for good reasons, your penny stock investment can grow overnight. For example, GameStop, a penny stock in the US market, traded between $2 and $3. However, after a random discussion over a Reddit thread, its price shot up to $300 in early 2021.

Disadvantages of penny stocks

Although not all penny shares fail, they have several risks associated with them. Let’s dive into them to help you make informed decisions.

- Inconsistent pricing

While you can make overnight profits with penny shares, it can also go the other way around. Additionally, a lack of information about these shares increases the chances of fraudulent activities. Therefore, forecasting the prices of these stocks becomes challenging. Even stocks of companies that have a high market capitalisation can be extremely volatile.

- Low liquidity

As penny shares are stocks of small companies, they are not very popular in the market. As a result, they have low trading volumes, making it difficult for you to buy or sell stocks. If you’re in urgent requirement of funds and want to sell your penny shares, you might not always find a buyer easily.

- Insufficient information

It is crucial to research the company and its finances thoroughly before investing. However, finding the right information about their finances, management, and performance can be tricky with small companies. And with limited information, it’s challenging to make an informed decision.

Should you invest in Indian penny stocks?

Investing in penny shares can often be a gamble. Therefore, you should only invest a small percentage of your portfolio value in these stocks. Even if the prices of these stocks increase, they have low liquidity. This means that there are chances you won’t be able to take out the money in time to enjoy the benefits. 

However, all penny shares have different features, and several stocks are stronger than others. So, carefully perform fundamental research along with technical analysis before making any investment. Also, don’t forget to monitor the trading volumes.

Things to consider before investing in penny stocks

- Research thoroughly: Before investing in penny stocks, make sure to thoroughly research the company for its financials, growth potential, and business model.

- Evaluate industry trends: Assess the industry in which the company operates to determine if the stock has substantial growth potential.

- Review the management: Make sure the company is run by experienced, reputable professionals with a track record of making smart decisions.

- Diversify your investments: Penny stocks are high-risk, so it’s important to diversify your portfolio to spread out the risk and avoid significant losses.

- Maintain a long-term perspective: Companies take time to grow and increase their value. Therefore, it's important to be patient and stay invested for the long term.

- Consult professionals: If you’re new to penny stock, it's advisable to consult a financial advisor to make informed investment decisions.

The bottom line

Penny shares can be an excellent investment as they have no entry barriers and require little to no formalities to trade. All you need is a stable internet connection and a trading account. Moreover, as they are low priced, you can begin your investment journey without burdening your pocket. But remember, not all penny shares make it big. So, carefully research the fundamentals before investing in them.

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Frequently asked questions

1. What are the top 10 penny stocks?

The top 10 penny stocks in India include:

- GTL Infrastructure

- Sarveshwar Foods

- Vikas Lifecare

- Davangere Sugar Company

- Vikas Ecotech

- Lakshmi Precision Screws Ltd.

- DSJ Keep Learning Ltd.

- Future Supply Chain Solutions

- Radaan Mediaworks (I) Ltd.

- Antarctica Ltd.

2. How does a penny stock work?

A penny stock is a share of a small company trading at a low price. They are considered high-risk investments but have the potential for high returns if the company grows.

3. Is penny stock a good buy?

Penny stocks can be good if they align with your investment goals and risk tolerance. They have the potential to generate high returns but also come with significant risks.

4. What is an example of a penny stock?

An example of a penny stock is GTL Infrastructure.