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What are penny stocks ? Should you invest ?

Someone would have come to you or you would have thought of making fast money on betting big on penny stocks on some rumors or 'on khabar'.

Just wait ! Let us discuss what are they and how it works


Penny stocks are stocks that are being traded at a very low price (less than 20 stocks). These are usually beaten down companies or companies that have something going wrong fundamentally. From an investing point of view, history says these companies are volatile in nature, low on liquidity and lack business quality or have deteriorated business quality over years. So you should be very careful in investing in those.

These companies have one of these characteristics apart from the price -


1) High on debt - Due to which the companies have huge interest expenses leading to erosion of profits. If you look upon in the history these debts are taken to make expansion fast, however one must not forget that a business have typical business cycles usually of 11 years. Even if you are right on expansion but wrong timing it can lead to disaster.


2) Promoter frauds -  Management quality is of at-most importance when you are investing in a company. When management itself have a bad intent of forging and hiding facts from minority in such cases your entire investment thesis can go wrong. Eventually such frauds come out sooner or later and the price takes down a huge beating, leading towards single digit.


3) Product obsolete - The product that company had been selling is now a talk of past and company has not been able to recoup that loss due to which the future business growth becomes a question and is then reflected in price.


4) Cyclical company - A cyclical company which is not able to withstand the bad cycle. This occurs due to the nature of business and wrong timing of taking debt at the top of cycle due to which company had extra capacity with selling price of the product declining and debt trap hurting on the tap.


There can be various other ways also however in most of the cases one of the above will be seen.


Instead of hunting for penny stocks which usually comes to you through some other person as a KHABAR, you should focus on simple stories. 


"History says simple stories are a good and less risky ways to compound your money instead of finding turnarounds in these penny stocks which are rare and involves lot of mental pressure"


CA Devang Maheshwari

Thank you


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