How to Pick Good Penny Stock

by Karen Rogers

    Companies just starting out list their stock on the over-the-counter (OTC) exchange or on the pink sheets. The stock prices range from $2 a share all the way down to fractions of a penny, and this is why they are known as penny stocks. Some of these fledgling companies will make the jump to a major stock exchange, but most will remain consigned to the OTC ranks or disappear altogether. Knowing how to pick a good penny stock can be the difference between a lucrative trade and a losing trade.

    Step 1

    Find the industries trending up by consulting Investors Business Daily. Turn to the Market Section page, locate the “Strongest Industries” section and select the industries with the highest Relative Strength Index (RSI). The RSI measures the strength of a trend, so an industry with a high RSI is in a stronger trend compared with one with a low RSI number.

    Step 2

    Use a free online penny stock screener such as Zacks Investment Research Stock Screener. Start by selecting OTC as the exchange. Find the Industry heading and, using the drop-down menu, highlight the industries you want to search. Penny stocks have low market capitalizations (market cap), so use a market cap range of $100 million to $300 million to help weed out the weaker stocks. Penny stocks are often thinly traded, which can make closing a trade difficult, so use 100,000 as the minimum average volume amount.

    Step 3

    Consider the stock price range you want to use. Penny stocks trading at less than $0.009 a share can be easily manipulated. Using a price range from 5 cents to $2 can help avoid this problem. There are many penny stocks that only exist on paper, so it’s important to select a company that actually makes money. Enter positive growth and sales qualifiers to find companies that are earning income. Change your search criteria to produce a short list of quality penny stock companies.

    Step 4

    Go to an online financial data provider such as Yahoo Finance and pull up each company’s financial statements. Check to see that the growth and sales are increasing, and that the earnings per share are positive. Make sure the company has enough cash to conduct its daily operations and is not swimming in debt. Now pull up a stock chart and confirm that the company is in an up-trend. Screen each company using the above criteria to find the best penny stocks for your investment money.

    Items you will need

    • Online stock analysis program

    Tip

    • Reject all companies that do not meet your search criteria, especially if you cannot find any financial information about the company.

    Warning

    • Penny stocks can be very illiquid, and many trade for as little as $0.0001 a share. Don’t compound the risk by trying to short an already cheap stock.

    Photo Credits

    • Ablestock.com/AbleStock.com/Getty Images

    About the Author

    Based in St. Petersburg, Fla., Karen Rogers covers the financial markets for several online publications. She received a bachelor's degree in business administration from the University of South Florida.

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