Re: Penny Stock Plays
Iagman, don’t get discouraged, there is a lot of fun to be had and money to be made in the penny markets. Here are some thoughts (opinion follows):
Always remember the prudent man (prudent person) rule. Generally speaking, a prudent man wouldn’t invest more than about 5% of their “worth” into “risky” investments. Penny stocks are some of the most risky investments. As a general guideline, around 5% of a portfolio invested in venture capital, private equity, penny stocks, etc. would be considered “prudent”. This would give you some upside if this investment did real well but if it was all lost there would be little harm done.
Try to diversify as much as possible. Generally speaking, companies like Exobox should have been nurtured through the private equity / venture capital markets first before becoming public. Becoming public as a small company doesn’t give you access to lots of money. Issuing stock is very inefficient and the costs of being public more often than not severely outweigh the benefits of being public when you are small. Most small companies in the penny arena are likely in this for management and insiders to cash out at the expense of public investors. Being a small publicly traded firm just doesn’t make much sense. The only reason I can think of for doing this is for investor-customers (not the case with Exobox). The odds of doing well in the pennies are worse than with the larger firms. Because of this, diversification becomes even more important. Try to choose 10 of your favorite penny companies and invest the same amount in all of them. That way if one of the ten companies takes off you will have benefited.
Accumulate small batches of stock over time. Buy some of these 10 companies over a 6 month or so period on regular intervals. If the price spikes up to 2x or 4x or more, sell as many shares as it takes to recoup your original investment plus taxes plus broker fees. If you can do this, you will sleep very well at night knowing that you are playing with the “houses” money.
There are a few companies out there that really are profitable and are in the penny arena. CHHE is an example (Disclaimer, I own this). It has a P/E ratio and it is very low. It also doesn’t put out press releases. Examples like this are very difficult to come by.
Don’t get greedy and don’t fall in love with any investment. Many times when penny stocks start to move up a little people start to buy more, “go all in” and break their own investment rules. This frenzy feeds on itself causing the stock to move up more and more people to buy more causing them to be very volatile. This is exactly the time when you should be selling half your shares on the double, one-third on the triple, etc. This is how Buffett made his money. At some point in the future (it may take some time) all stocks (even the pennies) will need to be fairly valued compared to their peers which likely means the spike will come down. Companies that have negative asset value and have no earnings are basically worthless. Companies that are in this situation and are trading with a positive value are trading on the possibility that someday they will have earnings. What a penny stock then represents for a company is basically the value of a call option. The call goes to zero if the company goes under and takes on greater value if the company makes money at some point in future time. Because of this the value of companies not making money are very difficult to nail down.
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