How to Pick and Trade Penny Stocks: 13 Steps (with Pictures) (2024)

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Co-authored byMichael R. Lewis

Last Updated: May 6, 2021Approved

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   Get ready for the risk. Whether you are a new investor, or a seasoned investor moving to penny stock trading, you should brace yourself for the very high risk associated with penny stocks. While certain penny stocks can turn very high returns, most experts estimate that more than 90% of these stocks are not worthwhile investments.^[1]

   • Most penny stocks are sold on trading markets other than NASDAQ or the New York Stock Exchange (NYSE) because the selling companies do not qualify to register on these top-tier exchanges. Instead, these companies register with secondary markets like Pink Slips or OTC-QB and QX that allow stock sale without requiring SEC filings or other comprehensive registration data.
   • Pink Slips is known as the riskiest securities market because the market doesn’t require any filings or records to sell stocks there.^[2]
   • In addition, there is usually very little information on these stocks, and it is difficult to verify the reliability of any information you do find. Penny stocks are often part of "pump and dump" schemes, in which the price of a stock is falsely inflated so you overpay for essentially worthless stock.
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   Assess your investing needs. Penny stocks are very risky and therefore are not an advisable investment for long-term savings plans. If you are investing for retirement, children’s college, or simply investing your savings, it is generally wiser to invest in traditional stock than in penny stocks, simply because the risk of loss associated with penny stocks is so high and you may lose part or all of your investment.^[3]

   • Consider using a small portion of your investment to buy penny stock while investing the bulk of your funds in less risky securities. By doing this you will open yourself to the possibility of high return through penny stock gains, but you will protect the greater part of your investment from loss by rooting it in more secure investments.
   • Penny stocks are more suited for short term investments, or frequent buying and selling with discretionary funds. Most penny stocks are sold by small businesses trying to get started, so it won’t take more than a year to know whether or not the company is going to survive and do well.^[4]
   • Some people think all stocks start as penny stocks – most don’t. High-value stocks like Apple, Google, and GM all started on a secure stock exchange, unlike penny stocks. While a few penny stocks will eventually grow strong enough for sale on an exchange, most won't, and most high-value securities did not start as penny stocks.^[5]
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   Prepare yourself for loss. The reason penny stocks are so cheap is that they are inherently very risky, and often the underlying businesses fail. Most investors who buy and sell penny stocks are aware of the fact they will lose some of their investments – they are looking for a few gems among stones that will provide high returns. You should consider this as you prepare to invest.

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   Look for company data. Once you find a stock you are interested in purchasing, research the company to determine whether or not it is likely to grow and prove a worthwhile investment. The difficulty in researching penny stock companies varies based on the company and the market the stock is sold on. You should prioritize purchases of penny stocks that you find information on, and avoid stocks that don’t present any real data on themselves.

   • If you are interested in a penny stock for sale on a secured exchange like NASDAQ or NYSE, you can read the company’s quarterly financial statements and SEC filings for free online. These resources provide you with details about the company's historical performance, and the attached management discussion will outline the company’s vision for the future.
   • If you are looking at a penny stock for sale outside of the exchanges, such as through OTC markets like Pink Sheets, use tools like Google’s or Yahoo’s finance websites to search for the type of penny stock you would like to buy. Researching directly through a reputable third-party source will ensure you aren’t being scammed, such as through emails or other marketing articles paid for by businesses looking to sell stock.
   • If you want to buy a specific penny stock and can’t find any data on the company, watch out! If you are certain you want to invest, use google maps to determine whether the company has a legitimate place of business and is operating as it represents.
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   Analyze the company’s balance sheet. A balance sheet lists all the assets the company owns, including cash, liquid investments, outstanding amounts owed by customers (receivables), equipment, real estate, and other forms of property. It also lists the amounts the company owes in liability to other companies, and the amount of equity in the company retained by the owners. Use the balance sheet to assess whether the company has enough cash and liquid assets on hand to pay the liabilities it owes in the next year (“short-term liabilities").^[6]

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   Review the company’s profitability. The company income statement, or statement of earnings, shows how much money the company brought in as revenue during a period, and then how many expenses the business had to pay for associated with the revenue. Look at whether or not the company had positive operating income – did it bring in more than it paid out? A company who is operating at a loss is less likely to grow and increase its value.^[7]

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   Check out the cash flow. A company’s cash flow statement shows where it made and spent cash during the period. You can see from looking at a cash flow whether the company is spending the bulk of its cash on operating activities to run the business, investing activities to grow the business, or financing activities, the amounts the company pays to borrow money. These spending patterns can signal to you whether the business is growing (spending money on operations and investments), or if it is struggling to pay debts (spending more money on financing than operations or investments).^[8]

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   Consult the experts. While you should ignore solicitations to buy penny stocks, you may have more luck reading on sites like BusinessWeek and Google Finance, where investment writers share their tips on penny stocks.^[9] This research is more reliable as it is not paid for or endorsed by a specific selling company. Use these sources to learn as much as you can about a company from others who have done the same research.

   • You may also speak to a financial advisor on penny stocks, but know they might not want to advise you in purchasing high-risk securities. Advisors are required to speak explicitly with investors about the risks of investing in penny stocks, and many advisors refuse to practice penny stock investing because it is simply too risky. If you do find someone who will work with you, they can assist you in doing research and finding financial information on companies selling penny stocks.
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   Beware of penny stock scams. Many shady businesses sell stocks in shell companies that don’t even operate their businesses in the hopes of making money by selling stocks before bailing. You should avoid investing in anything you receive solicitations to buy, as these solicitations are often paid for by scammers looking for windfall sales. Instead, limit your purchasing to stocks you find or learn about through reputable sources.^[10]

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   Create an investment account. Once you have decided on what company or companies you want to buy penny stocks from, you need to register with a platform to make trades. Most trading platforms, such as eTrade, AmeriTrade, and others all offer access to penny stock trading.^[11]

   • If you already have an existing online trade account for the stock exchange, you can use the same account to make your penny stock purchases. Look at your plan to learn the commission fees the platform charges for facilitating your trades.
   • If you don’t have an investment trading account, you should create one and deposit enough funds to pay for your penny stock purchasing. Most trading platforms will charge a commission fee for facilitating your trades, so consider the cost and choose a plan and platform that fits your trading needs.
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   Make your penny stock purchases. Once you have registered or signed into your account and have access to funding, you are ready to make your purchases! Choose the penny stocks you have researched by searching for their ticker symbols, and choose the quantity you want to buy.

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   Monitor your investments and know when to sell.^[12] Because penny stock values change rapidly, you should monitor your investments closely and know when to move on from a specific stock. Keep an eye on your portfolio’s performance and keep trading following your investment strategy.

   • Because penny stock values often change dramatically in a short time, you may choose to sell a stock because of its high performance, accepting the gains you have received to date and pulling out to prevent future devaluation.
   • You may see some stocks plummet in value right after you purchase them – this is part of the risk of investing in low-grade securities and should be expected.
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   Keep investing. Investing in penny stocks takes patience and dedication. Because most stocks don’t turn into gold mines, you will often have to start from scratch or resell your stocks to invest in other companies. You should expect to do this many times before you make any return profits, but if you do enough research and invest long enough, you just might get lucky.^[13]

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