Investing in Penny Stocks is For Dummies
It’s been almost seventeen years ago since we started waxing poetic on technology stocks. In its original form, Nanalyze was a forum where people could discuss nanotechnology stocks. George Dubyah had just signed the 21st Century Nanotechnology Research and Development Act and interest from investors couldn’t have been higher. That’s when we first learned about the penny stock phenomenon, and we’ve been warning investors about it ever since. Today, we’re going to elaborate on what constitutes a penny stock and talk about why investing in penny stocks is for dummies.
What’s a Penny Stock?
You might assume that a penny stock is any stock that trades for less than $1, and you wouldn’t be wrong. Indeed, a penny stock can trade for less than one dollar, but not all do. Because we take a global look at the equity markets, we need to define “penny stock” in more than one way. If a stock exhibits one or more of the following characteristics, it’s probably a penny stock.
Stocks That Trade For Less Than $1
Stocks that trade on major exchanges are often subjected to certain price rules. For example, both the NYSE and the Nasdaq exchanges require a minimum security price of $4 per share. If a stock falls below this threshold for a given period of time, they’ll likely receive a warning from the exchange giving them a certain amount of time to regain compliance. If the stock fails to gain compliance, then they’ll be delisted and begin trading on the over-the-counter (OTC) exchange.
Stocks That Trade on OTC and Pink Sheet Exchanges
Today, all the shoddy exchanges have been grouped underneath a single umbrella called The OTC Markets Group. Any of the 11,240 stocks that trade on exchanges managed by the OTC Market Group should be avoided like the plague. The only exception might be legitimate foreign companies that are looking for an easy way to make their shares available to investors in ‘Murica.
One way for a foreign company to make their shares available to American investors is by listing them as an American depository receipt (ADR). For example, you can buy shares of Nestle under the ticker NSRGF. The OTC Market Group established the OTCQX market to allow global companies already listed on an international stock exchange to make their shares available to American investors.
So far, we’ve talked about stocks that trade on American stock exchanges, but there are dozens of exchanges that are now accessible to any retail investor that can fog a mirror. This means we need a broad rule that can be used when investing in any company traded on any exchange across the planet. We need a market cap limitation.
Stocks With a Market Cap of Less Than $50 Million
One way to break down the global universe of stocks is by size. Index provider MSCI does the best job of this which is why they’re the leader in global indices. When we look at the size of a company, we look at their market capitalization (calculated by multiplying the price of a stock by its total number of outstanding shares). MSCI calculates market cap cutoffs dynamically based on the entire universe of stocks they are analyzing. What we’re looking for is a quick rule of thumb when it comes to how small a company we ought to be investing in.
The term nano cap refers to all companies that have a market cap of $50 million or less. There are thousands of such stocks being traded on exchanges across the globe. Many of these are easily manipulated so that boiler rooms can run sophisticated and well-coordinated pump-and-dump operations which fleece investors with good intentions while lining the pockets of the people running these scams. If sophisticated institutional investors avoid nano cap stocks because the risks are too high, retail investors shouldn’t think they have some special advantage in figuring out what’s a scam and what’s not. You will lose money investing in nearly all penny stocks. If you’re not convinced, then start looking for red flags.
Penny Stocks For Dummies
There is no such thing as a stock tip. Anyone who shares information that’s not publicly available is guilty of insider trading. Anyone who pushes you to invest in one particular stock should immediately be seen as suspect. Hang up the phone, stop emailing them, don’t speak with anyone who is trying to get you to buy a particular stock because it’s almost always a boiler room operation. If you follow that rule, you should be golden. Still, if you want to go down the penny stock rabbit hole, you’ll start to notice that all these penny stocks have some things in common – lots of red flags.
After spending the past decade looking at some of the worst investment vehicles known to man, we’ve put together a list of red flags to watch out for when evaluating any stock, though you’ll find these to be far more prevalent among penny stocks.
- The company is usually recently founded through the reverse merger of a shell corporation and with the name changed accordingly to address a particular exciting disruptive technology. “Bob’s Auto Repair Inc.” will suddenly become “3D Printed Blockchain IoT Sensors Inc.”
- The company possesses one patent or a small number of patents that it claims applies [insert your disruptive technology here] to cure cancer and the common cold all at once. These patents are usually acquired in the reverse merger or invented by someone in senior management whose credentials and past successes are heavily touted.
- The company’s marketing materials, financial statements, SEC filings, etc. will greatly detail the size of the market opportunity as opposed to the success of their product in capturing revenue from said market application. Revenues will always be just around the corner.
- Speaking of which, there will almost never be revenues which help demonstrate traction and product fit. Oftentimes, you’ll see grant income listed as revenue.
- Many individuals on stock message boards such as the ones found on Investors Hub will suddenly start posting messages touting the merits of the stock using phrases such as “load up”, “get on the train”, “the next Microsoft”, “easy ten bagger”, etc.
- Any constructive criticism of the company will be met with accusations of short selling when in fact, the short selling of OTC stocks is very difficult and rare.
- The company will keep announcing partnerships, memorandums of understanding (the legal equivalent of a handshake), and other types of agreements that never actually go anywhere.
- The company will communicate in an overly aggressive manner with shareholders, such as issuing press releases every other day.
- Oftentimes, you can go back five years in the financials and find previously made promises that were consistently broken.
- When the original opportunity does not transpire, the company will then “pivot” into other application opportunities for their technology, often latching on to whatever happens to be dominating news headlines.
- Usually these companies will continue issuing private placements to support their operations until the share price completely collapses and long term investors are left holding shares that are worthless.
It is important to note that the senior management teams who run these companies are paid whether or not the company succeeds, in most cases, very handsomely. These individuals are not necessarily acting maliciously, or are purposefully aware that others seek to manipulate the share price to their advantage. They may not intend to leave long term investors left holding the bag, but when you lose all your money, does it really matter whether or not they were crooks or incompetent business people?
The SEC specifically warns investors about companies that conduct reverse mergers. That’s because countless people have lost their hard earned money, many of whom were retirees who needed that money to survive. The blatant fleecing of elderly investors is probably what motivated us to start exposing these companies in the first place.
Losing Money With Penny Stocks
In the mid 2000s, many nanotech-themed penny stocks were seeing strong interest from investors based on promises and dreams. There were six in particular that adamantly claimed they were legitimate, some accusing us of having ulterior motives for questioning their visions of grandeur. If you invested $5,000 in each of these six companies for a total of $30,000, ten years later you would have exactly 80 cents. Here’s how each company performed over time:
- JMAR: -100%
- Biophan: -99%
- US Global Nanospace: -99%
- Industrial Nanotech: -99%
- Natural Nano: -99%
- mPhase: -99%
That was just the tip of the iceberg. Over the years we covered dozens of penny stocks, nearly all of which crashed and burned so horribly that in most cases you would have lost all your money investing in whatever vaporware they were peddling at the time.
Here are just a few more examples of “nanotechnology companies” that never quite followed through on their promises:
- Liquid Metal Stock – We first started watching them in 2003, then in 2013 when that whole Apple thing fell through. We’re still waiting for them to start generating meaningful revenues from their amorphous alloys.
- Industrial Nanotech Stock – Remember how Nansulate was supposed to make everyone rich? Didn’t happen. Stock trades at one-fifth of a penny giving them a current-day market cap of less than $5 million.
- Quantum Materials Corp Stock – We said they needed cash badly and their fanboys screamed bloody murder. Today, this “quantum dot stock” continues its long downwards slide.
- Nano Labs Stock – This ceramics-turned-nano company claimed to have “replaced 40% of gasoline with water and nanotechnology”. Today, shares trade at 0.0002 cents which means your average house in California is worth more than this disaster of a company.
- Tauriga Sciences – What do you get when you combine crowdfunding with penny stocks? Absolutely nothing. That’s about what shares of this company are worth today.
- Manhattan Sciences Stock – We were promised nanometal dental implants and cancer detection. What we got was a share price that sunk like the Titanic once all the promotional activities stopped.
- QuantumSphere – In 2015, they said “our FeNIX nanocatalyst is just the first of many disruptive products we plan to bring to market.” In 2017, they filed for bankruptcy.
- Nanoantibiotics – Even the SEC questioned the validity of this “nano antibiotics” company. They’ve since disappeared from the face of this earth, and not even Google searches can unearth their sordid past.
- California Nanotechnologies – Traded in Canada as well, this nanomaterials stock claimed to have all kinds of high-profile customers. Today, they have a market cap of about $1.6 million.
While many of these penny stock debacles involved nanotechnology, they’ll gravitate to just about any technology theme that happens to be attracting attention from investors. Here are a few more examples from life sciences sector.
- Cellceutix – Lost -74% of its value since our piece and now goes under the name Innovation Pharmaceuticals (IPX).
- Propanc – Lost -99.5% of its value after we cautioned investors about this piece of garbage.
- Pharmacyte Biotech – This gem lost -81% of its value since we warned investors about it.
- Regen Biopharma – After losing -99.9% of its value since their IPO, this steaming pile of shite is still actually being traded, and the results are best portrayed by the below chart:
Most recently, dozens of penny stocks emerged around the cannabis theme resulting in another warning from the SEC about the land mines to be found. In Canada, so many penny stocks are listing on the CSE that they’re now calling it the “Cannabis Securities Exchange.”
Writing About Penny Stocks
Over the years we’ve warned investors on dozens and dozens of penny stocks that ended up going bust. There were two reasons for this. Firstly, we were disgusted by situations we encountered where retirees were being conned into putting their savings in borderline scams while the gravy suckers on the other side bore absolutely no consequences. In some cases, we actually filed complaints with the SEC, something which didn’t even result in any action being taken until years later. In return for our altruistic motivations, we were threatened and berated in just about every way you can think of, from cease and desist letters, to menacing physical threats from unknown individuals. On the flipside, many of our pieces were incredibly popular, so we benefited from the traffic which brought us brand awareness and some small ad revenues.
As we’ve now begun offering premium content under a subscription model, traffic becomes less important to our business. Going forward, we won’t be covering any stock with a market cap of less than $50 million, save for the rare exception. Institutional investors don’t dabble in penny stocks and neither should retail investors. The energy spent to point out the duds would be much better spent highlighting more promising opportunities.
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