What are penny stocks and are cheap shares worth investing in?

George Sweeney 9th Jul 2022 No Comments

Reading Time: 5 minutes

As an eagle-eyed investor, you might be on the hunt for cheap shares and stocks to stick in your investment portfolio. But, what exactly are penny stocks and is it worth investing in these ‘cheap’ shares, or should they be avoided?

We had an email from a reader, Dennis Hatch, who was asking about Penny Shares. He said “would it be possible to have a webinar on penny shares? One of the problems for the small investor is the high cost of shares. Most of the recommended share are very high in price to purchase one share where as penny shares you can purchase few hundred.” So we thought we would create a guide to Penny Shares to explain what they’re all about.

This guide will clear up all the misconceptions surrounding ‘cheap’ shares. We’ll explain whether you can make money with these investments, some popular options, and alternative investing methods for you to consider.

Keep reading for a complete breakdown on this topic or click on a link below to jump straight to a section…

• What are penny stocks and shares?
• Where can you find them?
• Can you make money with them?
• How to invest in penny stocks
• The hottest penny stocks
• Alternative ways to invest
• What investors need to know about penny stocks

 

What are penny stocks and shares?

It’s worth clarifying what these terms mean before we take a deep dive into the world of penny stocks. Firstly, it doesn’t mean that the shares cost a penny.

Typically a penny stock or penny share must:

• Be valued at less than £1 in the UK or under $5 dollars in the US.
• Have a market capitalisation of below £100 million or $300 million dollars.

But, sometimes people will refer to companies as penny stocks if they meet just one of these thresholds.

The term is often used as a bit of a blanket term referring to small firms or stocks with a low share price.

 

Where can you find penny stocks?

The majority of penny stocks you can access will be located on the:

• London Stock Exchange (LSE)
• New York Stock Exchange (NYSE)
• Nasdaq Stock Market (National Association of Securities Dealers Automated Quotations Stock Market)
• OTC stocks directly from a broker

Most UK penny shares will be listed and found on the AIM (Alternative Investment Market) index.

This index is an offshoot of the main London Stock Exchange (LSE) stock market.

Smaller companies tend to be listed here because there are fewer rules and requirements to be met compared to the LSE Main Market.

 

Can you make money with penny shares?

Yes, this is definitely possible. There are potentially high rewards…but also higher risks.

Investing in penny shares means putting money into smaller companies that can be quite agile and sometimes have lots of room to grow.

This can lead to larger returns, but not very often.

 

How do you invest in penny stocks?

First, you’ll need a brokerage account that gives you access to the right markets you want to invest in.

If you need a hand getting set up with a UK investment platform, we created this brilliant guide explaining how to create an account and buy shares with eToro.

The main reason we like eToro and work in partnership with them is because it’s free to open an account, free to buy or sell shares, and they have an epic selection of assets and investments to choose from.

Once you’ve got an account set up, you’ll need to fund your account. Then, search for the penny stocks or cheap shares you want to buy, and select how much you want to invest.

Remember to do some research first before you buy any shares. Don’t just dive in and invest money because of a low share price.

 

What are the hottest penny stocks?

Looking for the hottest stocks usually isn’t the best tactic for long-term investing, but it can be fun.

To give you an idea of some penny stocks and examples of low-cost shares, here are some popular options:

UK shares under £1

1. Lloyds Banking Group (LLOY)
2. Cineworld Group (CINE)
3. Greatland Gold (GGP)
4. Eurasia Mining (EUA)
5. Pineapple Power Corporation (PNPL)

US shares under $5

1. Sundial Growers (SNDL)
2. Trivago (TRVG)
3. Globalstar (GSAT)
4. Ebang International Holdings (EBON)
5. Sosandar (SOS)

 

Is there an alternative to investing in penny shares?

Yes! Quite a few.

In the UK, plenty of excellent companies have a share price under or close to £1.

Many are even listed on the FTSE 100. However, these technically wouldn’t qualify as penny shares because the firms are too big.

fractional shares

Another important alternative that some investors aren’t aware of is fractional shares.

Some UK investing platforms now allow you to buy fractions of a share, instead of having to buy a whole share.

So, if the price of a full share in a company is £100, you can buy a 10% fraction for just £10.

If it’s a dividend-paying stock, you’ll even still get a dividend based on the size of your fractional share.

Buying fractional shares can also be extremely useful for investing in major US companies and blue-chip stocks that have a high share price.

Recently, some stocks such as Tesla (TSLA), Amazon (AMZN), and even income investment trusts like Temple Bar (TMPL) have decided on a stock split to make the cost of each share lower.

But, this is mostly just for the psychological benefit. If you can buy fractional shares, it doesn’t really make a difference.

Holding more shares after a stock split doesn’t automatically make you wealthier, because even though you own more shares, each share is worth less. It’s simply a dilution of the shares.

 

What else do investors need to know about penny stocks?

It’s really crucial to understand that a low share price doesn’t necessarily make a stock ‘cheap’. How cheap a stock is comes down to its valuation and financial outlook.

So, make sure you’re clear on the difference between a low share price and cheap shares, because the share price doesn’t reflect whether an investment is good value or ‘cheap’.

Don’t jump into any investment or pick up shares just because of the surface share price. This price doesn’t really tell you anything about the underlying business or how financially sound it is.

If you want to stay up to date with the latest market movements and investment news, make sure you sign up for the fortnightly MoneyMagpie Investing Newsletter.

This is not financial or investment advice. Remember to do your own research and speak to a professional advisor before parting with any money.