Have you ever imagined investing in one of the giant companies in their early days? Before they made it big, Apple, Microsoft, Netflix, Nvidia, and Tesla all started as penny stocks. You could have bought stock for pennies and sold it for hundreds, or even thousands, of dollars per share. That’s the dream for most penny stock investors.
Penny stocks are shares of small companies that trade at $5 or lower. They’ve also been called microcap stocks because their market cap lies between $250 and $300 million. A company that makes it big has a massive upside, but most penny stocks end up losing money.
The question remains: Should penny stocks be part of your investment portfolio? Here’s everything you need to know about how to invest in penny stocks, where to invest, what to watch out for, and what alternatives you have.
5 steps to invest in penny stocks
Step 1: Open a brokerage account
To buy penny stocks, you’ll need a brokerage account. If you don’t already have one, popular options include Fidelity, Schwab, TD Ameritrade, or Robinhood. For more options, check out our list of the best online brokers.
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Step 2: Fund your account
Once your brokerage account is open and active, you’ll need to fund it to invest in the penny stocks you want. Most brokerages enable you to transfer cash from your primary bank account.
Step 3: Research investments
To find penny stocks, look for those trading at $5 per stock or less. Since penny stocks are susceptible to scams, you’ll need to conduct fairly extensive research on the stocks available to purchase. Some brokerages, such as Fidelity and Charles Schwab, offer in-depth research tools but remember that no penny stock can be considered a safe investment.
Step 4: Check to see if the security is registered with the SEC
If a penny stock is listed on a major exchange and you can purchase it with your brokerage account, it’s likely registered with the Securities and Exchange Commission (SEC).
Some penny stocks trade over the counter (OTC), meaning they’re not listed on a major index and are traded dealer to dealer. They don’t have the same reporting requirements as stocks listed on an exchange, so they’re difficult to fairly evaluate. We’ll address penny stock scams later in this article.
Step 5: Place a trade
Search for the stock name in your brokerage account. Specify the number of stocks you’d like to purchase. Place the order.
Best brokers to start investing in penny stocks
As mentioned, online brokerage accounts are some of the best places to start investing in penny stocks. Many brokers don’t charge fees for trades placed online and help you avoid the shifty nature included with many over-the-counter (OTC) penny stocks. Here’s a closer look at some of the top choices.
Fidelity
Fidelity is one of the largest online brokerages in the U.S. It’s known for its zero-fee trades, ease of use, and extensive research tools. Research tools make Fidelity ideal for investing in penny stocks, as you can access more detailed company data. Fidelity also allows you to purchase fractional shares.
Charles Schwab
Like Fidelity, Charles Schwab is a large brokerage that supports a wide range of investments. It also boasts a robust trading platform with plenty of research tools. There is no minimum investment required, and Schwab doesn’t charge trading fees in self-directed accounts. Note that Schwab does charge a fee for trading OTC stocks.
Robinhood
Robinhood was one of the first online brokers to offer commission-free trades and fractional shares. Although it lacks the aforementioned platforms' in-depth research tools, you can access professional research from Morningstar and Nasdaq Level II data by upgrading to a Robinhood Gold subscription ($5 per month.) Robinhood is worth considering, especially if you have an alternative method for conducting research on companies.
Tradestation
TradeStation offers a powerful trading platform with no account minimums and no trading fees on stocks or exchange-traded funds (ETFs). In addition to regular taxable accounts, TradeStation offers several IRA accounts, including Traditional, Simple, SEP, and Roth IRAs, and Rollovers. One drawback is that it doesn’t support fractional shares.
More about investing in penny stocks
Investing in penny stocks will often result in losses. This is because most penny stocks are small companies that are not well established, so investing in them is highly speculative. Only invest money you can afford to lose, and never devote more than a tiny percentage of your overall portfolio to penny stocks.
Pros and cons of investing in penny stocks
Pros:
- Low cost
- an increase in value rapidly
- High potential upside
- Discover a new, undervalued company
Cons:
- Very risky
- Highly volatile
- May not be able to invest with a traditional brokerage
- Low trading volume
- Companies are unproven
Who should invest in penny stocks?
Very few people should invest in penny stocks. The best penny stock investors are the ones who can stand to lose money and perform in-depth research on the company behind the penny stock.
What are the charges for investing in penny stocks?
Many brokerages don’t charge commission fees for trades made in a self-directed investment account. If you go with the right brokerage, you shouldn't be charged for trades you make with penny stocks.
What should investors watch out for?
Similar to many get-rich-quick schemes, penny stocks tend to attract scammers. You may be buying bogus stock or getting ripped off by a seller. Here are a few things to watch out for:
- Unregistered securities: Unregistered securities haven’t been vetted by the SEC, which means you don't have any way to verify the information about an investment you’re told about. You can check to see if a security is registered on the SEC website.
- Cold calls, emails, direct mail, TV, or radio ads: You’ll see a lot of direct selling with penny stocks. You may not be able to buy the investment from a brokerage (though this is not always the case).
- Offer guaranteed returns: No one can guarantee the returns of a penny stock. Steer clear if you are told there’s no downside to the investment being offered.
- Soft sell: You may expect a hard sell with a direct salesman. However, most know you’re likelier to trust them if they’re kind and patient. You can check to see if an investment advisor is registered on FINRA’s website.
- Pitch an up-and-coming company: Calls from investors trying to convince you to buy a company that’s about to soar. Sometimes the company is just a shell created to sell fake shares.
- Pressure to send money immediately: Stay away if you’re asked to send money for a limited-time offer.
- Free lunch: It’s common to be offered free gifts in exchange for attending a penny stock sales presentation. This can make you more susceptible to being led by the salesman.
- “Everyone is buying it” pitches: The scammer is trying to give you proof that the investment is legitimate. Be very wary. It doesn't mean it's legitimate, even if your mom or neighbor are investors.
An alternative to penny stocks
Instead of investing in penny stocks, you may want to consider trading fractional shares. Some high-quality stocks have very high share prices. But with fractional shares investing, you have the ability to purchase a partial share. This allows you to invest in stocks or ETFs without having the full amount to purchase a single share. Many brokers now support fractional share trading.
TIME Stamped: Invest in penny stocks cautiously, if at all
Since penny stocks are so risky, it’s more likely than not that you’ll lose your money. If you like the potential of a company and can evaluate its financial statements, you can allocate some money toward penny stock investing and see where it takes you.
Frequently asked questions (FAQs)
Can you get rich off penny stocks?
It is theoretically possible to get rich from penny stocks, but it’s akin to getting rich from gambling or the lottery: The odds of this happening are long.
Are penny stocks worth it for beginners?
Experienced advisors don’t recommend penny stock investing for beginners, though this recommendation does little to deter hopeful, get-rich-quick investors. If you don’t have much to invest, it means that a large portion of your portfolio could be held in stocks that aren’t likely to generate a positive return.
How much money do I need to start trading penny stocks?
Most online brokerages have little to no minimum investment requirement. As long as you have enough money to cover the number of shares you wish to purchase, you can trade.
How much money should I invest in penny stocks?
The general rule of thumb for buying penny stock is to only invest money you can afford to lose. If it does great, you’ll be excited. If you lose it, as 90% of investors do, it won’t be the end of the world.
The information presented here is created independently from the TIME editorial staff. To learn more, see our About page.
