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As you review the following differences between "blue-chip" equities and penny stocks, you may be able to see why professional analysts and institutional investors usually shy away from these speculative shares.
The kind of money that the big players use could crack the backs of many of these penny stock companies. There would not be enough volume on the other side of their trades to enable the transaction, because some penny stocks often trade only a few thousand dollars worth per day.
The negative connotation towards penny stocks among financial industry insiders needs to be kept in context. Sure, these investments are often low-volume, inexpensive shares of unproven companies. However, that is the beauty of penny stocks, and is partly why you can acquire such potentially rewarding stocks at such bargain prices.
As well, the lack of institutional interest is one of the keys to our methodology of picking winning penny stocks. Getting involved early, then holding on as the company gets discovered and explodes in price, is partly dependent upon the previously unknown company suddenly gaining interest from bigger players.
Speculation is based on penny stock companies having lower available information about their operations, minimal revenues, unproven management, and often an unproven product or industry.
A big-name company like General Electric or Ford Motors will have very little speculative value. In other words, you will probably not make hundreds of percentage points on your shares, but instead would be happy with returns of 10% to 20% per year.
In some cases, traders even use large-cap stocks to hedge or protect their portfolios, out-perform the market, preserve their capital, or diversify their exposure.
On the other hand, trading penny stocks with hopes of selling when you have realized a 20% gain might be folly. Penny stocks make their gains by the hundreds of percentages, and thousands, not just by the tens.
There are many bad investments in the penny stock field, so the best way to succeed is by isolating those with superior speculative value. The chance of buying into shares of the company that could multiply 10 or 20 or 50 times in price is the whole idea of speculation.
Large-cap companies usually have more predictable revenues and earnings. Many analysts and investors follow the companies, so that day to day events are quickly factored into the share price, and the stock often reflects a pretty accurate 'worth.'
In contrast, it is not possible to calculate the actual worth of most penny stocks. Some do not have inventories, a revenue stream, or even a proven product. The shares rise and fall based on buying and selling demand, and that demand is driven mainly by waves of speculation.
By their nature, it is nearly impossible to know what price a penny stock share should be trading at, and conventional financial ratios and industry comparisons are rarely effective measures for realizing a penny stock's tangible value.
Compare Penny Stocks to More Conventional Blue-Chip Stocks
|Speculation||Highly speculative. For some penny stocks, speculation is all they have going.|
The better penny stock companies often see their shares soar on speculative buying.
|Little or no speculative value.|
|Value and Predictability||Less actual value, greater perceived potential. Penny stocks are also very unpredictable.||Safer but boring. Very little potential for a price explosion.|
|Fundamental Analysis and Information Availability||Poor visibility levels, lower reporting responsibility.|
Can be researched properly if Leeds Analysis is applied.
|Well known, heavily followed companies have a wealth of information available.|
|Technical Analysis||TA methods can not be applied to penny stocks, except for proprietary Leeds Analysis.||TA can be easily applied to high volume shares.|
|Volatility||Highly volatile, with more frequent profit-taking opportunities, and greater price swings.||More secure and insulated from volatility.|
|Spread||Sometimes there is a gap between prices of buyers and sellers.||High volume stocks have very little spread between the bid (buying offer) and the ask (selling offer) prices.|
|Risk / Reward Ratio||The risks are higher, while the potential rewards are much greater.||Less risk, less reward potential.|
|Ease of Acquisition||More complicated to purchase some types of penny stocks, such as those trading Over-The-Counter.||Much easier to trade through your broker, no special commission rates.|
|Revenues and Company Life-Cycle||Lower, or no actual revenues. Initial or growth stage companies.||Mature or advanced companies, less growth but greater revenue streams.|
|Dividends||Very rarely pay or are in the position to pay dividends.||Many blue-chip stocks pay dividends.|
|Takeover or Acquisition Targets||More likely to be taken over by another company, which is usually very beneficial to the price of the shares.||More likely to be the company purchasing or taking over the smaller player, which is usually detrimental to the price of shares.|
|Industry and Sector Influences||Highly exposed to sector influences, to the potential benefit or detriment of the shares.||Insulated to the impacts of the sector and industry.|
|Economies of Scale and Niche Marketing||Niche marketing is more important, because penny stocks can not compete with the economies of scale of the bigger players in their field.||Benefit from economies of scale, but can not respond, react, or adapt to the smaller companies quickly enough. Often leave niches exposed for penny stock companies to capitalize.|
|Driving Factors vs. Fiscal Situation||Share price is not strongly tied to fundamental results and the balance sheet.||Fundamental results and the balance sheet are the most important factor to the share price.|
|Irrational Spikes and Profit Opportunities||More frequent and extreme spikes and dips, from less provocation.||More stable, less volatile.|
|Broker Policies||For certain types of penny stocks, brokers can charge greater commissions, or be problematic.||Brokers will not be problematic for trades in blue chip stocks.|
|Investment Horizon||Gains can be seen in short time frames, from hours or days, to weeks or months.||It often takes larger, slow-moving companies years for their share prices to advance meaningfully.|
Shares trading on senior exchanges must comply with regimented reporting requirements. To keep their shareholders happy, and to maintain their exchange status, they often must detail the entire inner workings and operational finances of their company to the public. It is simple to get the latest results from IBM, and to take it one step further you can even get estimates of future results.
Depending where the penny stock trades, the disclosure level is usually anywhere from mediocre to non-existent. There are penny stock companies which bend over backwards to inform the public of their every move, but these are few and far between.
It will take more work to acquire the information you could easily get from a larger company, and even then the data may not be available.