3. Liquidity or the Trading Volume
This is one of the key factors to look at. It may so happen that the prices do go up after you bought the stock and you are making huge profits on paper. But when you go to sell, you do not find any (or sufficient number of) buyers. Moreover, even small trades have a large impact on the prices.
These stocks are usually very illiquid with promoters holding a major portion and who are always willing sellers. But when it comes to buyers, you won’t find many of them. The fact that you tend to buy more quantity since the price is cheap (as we earlier saw 1000 shares of XYZ) compounds the problem. Selling even 100 such shares is difficult, so selling large quantities is virtually impossible.
Therefore, it will be prudent to study the trading volumes very closely for last 6 months to 1 year. However, higher volumes do not necessarily mean easy liquidity as the same could also have been manipulated.
4. Easy to manipulate and biased recommendations
Another problem is that these stocks are highly prone to manipulation. Lack of information, low prices, low trading volumes, much higher promoter holding etc. are some of the factors which make manipulation of the stock much easier vis-à-vis the regular stocks. And the fact that most of us buy merely on word-of-mouth (our fancy for hot-tips) makes the job of the unscrupulous dealers much simpler.
Do not get carried away by hyped-up media reports through newspapers, television shows, newsletters etc. Don’t go by casual remarks in the train or in the office or at the parties. You must do your own research.
Think twice, no thrice, as to why someone is recommending you an unknown stock. Thousands of investors have been duped in the past. Many fraudsters are out there to make quick money at your cost. Do you want to be their next victim?
5. The myth of ‘It can’t go any lower’
Many a times we are tempted to invest in a stock whose price has dropped a lot. We tend to believe that ‘it can’t go any lower’. This is not true.
If the company is facing serious business problems or the promoters have siphoned away the money or the manipulators have already made their bucks, the stock is never likely to recover. You can then forget your investment in that stock. In fact, over a period of time the exchanges will delist that company so you won't be even able to trade in that stock.
‘Investing in penny stock can be injurious to your financial health.’ So it may be best to keep way from them. However, if you are still a game for it, tread (and trade) with extreme caution. And please please PLEASE do take good care of your money.
