Practice Trading Stocks To Reduce Risk

Most people consider penny stock trading to be the exchange of stocks at a price between $1 and $5 per share. You’ll also see them labeled as micro cap stocks, microcap stocks, nano stocks or even just small cap stocks. But just because the price per share is low doesn’t mean there is less risk involved in this market; in fact these stocks generally carry more risk. That’s why it’s a good idea to practice trading before you start investing real money.

The Basics

Penny stock trading occurs within the OTCBB (Over-the-Counter Bulletin Board) or on the Pink Sheets. So you’ll also find them labeled as OTC stocks (OTC stands for over-the-counter) and you’ll sometimes see the OTCBB and Pinks Sheets referred to as the penny stock market.

Penny stocks tend to represent smaller companies, newer companies or struggling companies. They either haven’t proven themselves enough to list on NASDAQ or the grand New York Stock Exchange (NYSE) or in some cases they’ve been penalized by those exchanges and removed.

Penny Stocks Aren’t Cheap

There is a common misnomer regarding penny stock trading. Because of the term “penny”, people seem to think these stocks are somehow less risky than “regular” stocks. This, unfortunately, is not the case at all. In fact, this area of the market is probably more risky then standard trading because these stocks are so volatile and there is little information available on many of the companies they represent. Let me explain the disadvantages of trading in this market so you understand what you’re getting into with these profitable but volatile little devils.

Penny stocks lack liquidity. Most of them trade strictly for the profit of the trade rather than for the sake of investment. This means penny stock investors rarely have an interest in the long-term future of the stock. This minimizes share prices and thus minimizes available liquidity.

The Potential Risks

Additionally, trading penny stocks involves trading companies with minimum financial data available. Major exchanges such as NASDAQ and NYSE feature strict guidelines to financial reporting, but Pink Sheets and the OTCBB do not. So you’ll often be heading into the dark with penny stocks. This doesn’t mean you can’t find this information on your own, but it will be more difficult and less regulated.

In a related topic, you’ll often find it difficult to ascertain background on these companies. It is vital that you do your due diligence when it comes to companies traded as penny stocks. Micro cap stock companies often have little to no history or they may even have a questionable history which they don’t necessarily want you to know. Don’t be impatient; you need to know the company background when you engage in this type of trading. Don’t waste your time learning how to trade penny stocks until you understand the possible risks involved.

Penny stock traders often just “play” with these stocks, trading regardless of a company’s potential. However, to secure your investment you really should investigate the nature of the company and its direction before risking your money in this particular market. It’s also important to understand the various common penny stocks scams so you don’t fall victim to one of them.

Practice Investing With Paper Trading

I suggest investors, veterans and newbies alike, familiarize themselves with penny stock behavior through paper trading online before they dive into buying actual stocks with real financial risk. Then when you start, rely on a reputable and established penny stock broker rather than some hyped service with little record. Be wary of services offering penny stock tips and trades all-in-one.

I do not mean to dissuade you from making a little extra money through this type of trading; you certainly can make penny stocks profitable. But I find many people researching this area of investing seem to be looking for a means to get rich quick, and without the proper tools and resources, they’ll actually find themselves on the fast track to getting poor quick.

Take it seriously and be responsible and yes, you can make some real good money buying penny stocks.

More than anything, try to develop an understanding of the similarities which exist among multiple successful small companies. Look for the health and potential of the actual company and don’t fall for crooks temporarily inflating penny stock values with pump and dump schemes. In short, do your penny stock research.

You can enjoy great success with online penny stock trading if you’re responsible and if you exercise due diligence.