Busting the Investing Myth that Penny Stocks Can Lead to Marvelous Riches

There are some widespread investing myths that need to be debunked. One of which is the idea of buying a share, the price of which is going down so that your average cost goes down. Investors are of the notion that they can always make a profit by buying low and selling high. Today, a growth investor should never fall for this myth that one can get rich by investing in penny stocks.

You’ve probably received at least one of those marketing emails that read - ‘Invest now in X, while you get it for INR 5’ or ‘this share looks set to Explode’ or ‘Small Fortunes are made by those who get in now’, etc.

This concept of getting higher returns on what seems like a sure bet can be tempting, and sometimes people do get lucky by buying the so-called penny stocks.

However, the purchase of these shares carries an unusual amount of risk. For this exact reason, MarketSmith India focuses on high-quality, more expensive stocks that are priced at least at INR 20 a share and have a 50-day average trading volume of at least INR 1crore.

Although the potential for significant returns is high with penny shares, the risk of losing it all is even greater. There’s a high chance of price manipulation as few traders hold the majority of stakes in the company as a result of its low Market Cap.

The penny shares are extra-risky as they’re volatile. Only a handful of traders investing even a small volume of shares can send its prices fluctuating wildly. Institutional investors tend to avoid such shares as it is hard to build and exit significant positions when only a few stocks are traded.

Big funds involve crores of rupees invested in the market. Hence, they prefer more liquid shares and build their positions over time. This lends an element of predictability and stability to a share’s price movements.

When picking stocks, preference should be given to companies with strong business growth stories, and at a price, they are trading. The growth and evolution of a company’s business build the value of the stock. The cost of the stock may garner temporary demand for a stock, but it cannot sustain returns over a long period.

Understanding stock markets, employing strict trading rules, and persistent learning will help grow investments and not just low-priced stocks.

Note that the average price of stocks in MarketSmith India’s Model Portfolio is high. Most have their buy points that are in the range of INR 100 or higher, and in many cases, much higher.

For further information on stock market investments and share market tips, visit www.marketsmithindia.com.