In the United States of America, a penny stock, also known as a micro cap equity,[1] refers to a share in a company which trades for less than $5.00.[2] While this is the official definition, and is used by the US Securities and Exchange Commission, generally every full service or discount broker, and the vast majority of analysts and institutional investors, there are other more loosely held criteria applied by the general public and most retail investors. In other countries the term may be used differently, without reference to US institutions.
Some of these alternative criteria include:
a price per share being less than $1, and as low as fractions of one cent
a market cap of less than $50 million or less than $25 million
trading on more obscure markets, such as the Pink Sheets
While such definitions are sometimes used by individuals and retail investors, the various and loose unconventional definitions enjoy no consensus or accuracy.
As well, there are many limitations with the alternative definitions, as they often contradict themselves. For example, there are many companies trading for only a few cents with market capitalizations of hundreds of millions of dollars, or corporations trading on the Pink Sheets but having share prices of $50 or more.
Connotations
Both negative and positive connotations surround micro caps and low-priced shares.
Speculative investors are attracted to micro cap equities, because generally they:
are more volatile
make larger price moves in shorter time frames
have greater upside potential on a percentage basis
are easier to acquire with less initial investment
More conservative traders usually shy away from the smaller stocks,[3] because:
the underlying companies are often less secure or fundamentally sound
many shares are too volatile, on both a price and percentage basis
the companies generally dont pay dividends
they arent subject to the same reporting requirements as Blue Chip equities, if they are on the lower level exchanges
The two sides to the investment philosophy ring true to the old axiom, high risk, high reward.
Difficulties TradingMany newer investors are interested in micro cap equities because of the possibility of rapid and significant gains. However, there are several risk factors for traders, and many of which go beyond simple issues and concerns with the operations of the company.
For example, shares trading for less than $5 are considered by brokers to not be option eligible. Such securities are subject to higher trading commissions, much stricter levels for margin requirements, and usually can not be used to borrow against. Generally, unless it is option eligible, the equity can not be sold short.
In addition, depending on the liquidity of the underlying shares, and the exchange that the company is listed on, it can be problematic to sell your position. In extreme cases, investors may encounter difficulty liquidating their positions even when the shares are on the rise. This sort of problem is mainly prevalent on the Pink Sheets market, and less common among more legitimate exchanges such as the Nasdaq, OTC Bulletin Board, or American Stock Exchange.
In addition, it is generally more difficult to find information of companies trading on the secondary markets. Often, a Pink Sheet company will be listed and traded, yet make no publicly accessible information regarding their financial position, the corporate fundamentals, or operational guidance.
Well Known Companies
There are many well known corporations who either are, or at one time were, trading for less than $5 per share. Some of these include commonly followed companies such as Sun Microsystems, Ford Motor Company, and Sprint Nextel.
In the United States of America, a penny stock, also known as a micro cap equity,[1] refers to a share in a company which trades for less than $5.00.[2] While this is the official definition, and is used by the US Securities and Exchange Commission, generally every full service or discount broker, and the vast majority of analysts and institutional investors, there are other more loosely held criteria applied by the general public and most retail investors. In other countries the term may be used differently, without reference to US institutions.
Some of these alternative criteria include:
a price per share being less than $1, and as low as fractions of one centa market cap of less than $50 million or less than $25 milliontrading on more obscure markets, such as the Pink SheetsWhile such definitions are sometimes used by individuals and retail investors, the various and loose unconventional definitions enjoy no consensus or accuracy.
As well, there are many limitations with the alternative definitions, as they often contradict themselves. For example, there are many companies trading for only a few cents with market capitalizations of hundreds of millions of dollars, or corporations trading on the Pink Sheets but having share prices of $50 or more.
Connotations
Both negative and positive connotations surround micro caps and low-priced shares.
Speculative investors are attracted to micro cap equities, because generally they:
are more volatilemake larger price moves in shorter time frameshave greater upside potential on a percentage basisare easier to acquire with less initial investmentMore conservative traders usually shy away from the smaller stocks,[3] because:
the underlying companies are often less secure or fundamentally soundmany shares are too volatile, on both a price and percentage basisthe companies generally dont pay dividendsthey arent subject to the same reporting requirements as Blue Chip equities, if they are on the lower level exchangesThe two sides to the investment philosophy ring true to the old axiom, high risk, high reward.
Difficulties Trading
Many newer investors are interested in micro cap equities because of the possibility of rapid and significant gains. However, there are several risk factors for traders, and many of which go beyond simple issues and concerns with the operations of the company.
For example, shares trading for less than $5 are considered by brokers to not be option eligible. Such securities are subject to higher trading commissions, much stricter levels for margin requirements, and usually can not be used to borrow against. Generally, unless it is option eligible, the equity can not be sold short.
In addition, depending on the liquidity of the underlying shares, and the exchange that the company is listed on, it can be problematic to sell your position. In extreme cases, investors may encounter difficulty liquidating their positions even when the shares are on the rise. This sort of problem is mainly prevalent on the Pink Sheets market, and less common among more legitimate exchanges such as the Nasdaq, OTC Bulletin Board, or American Stock Exchange.
In addition, it is generally more difficult to find information of companies trading on the secondary markets. Often, a Pink Sheet company will be listed and traded, yet make no publicly accessible information regarding their financial position, the corporate fundamentals, or operational guidance.
Well Known Companies
There are many well known corporations who either are, or at one time were, trading for less than $5 per share. Some of these include commonly followed companies such as Sun Microsystems, Ford Motor Company, and Sprint Nextel.