If you are going to be a successful penny stock investor, you will need to understand certain terms as well as the other points that crop up frequently on online penny stock investment forums. This will help you to stay on top of all developments and round off your process of education. Because penny stocks are high-risk investments, you will need all the help that you can get.
The first thing to understand is how a market maker operates and what his role in the penny stock investment business is. The market-maker is a penny stock intermediary who buys and sells penny stocks in lots of 100 shares. The system allows for market makers to set their own prices for each transaction. This can benefit you both in terms of price and liquidity if you deal with a good market maker. Obviously, it helps to have several market makers for the same stock and the names for any stock will be listed for your convenience on the pink sheets.
You will next need to understand a little bit about how penny stocks are manipulated. You will recall that not all brokers work for your benefit and many of them are in business to see what they can get out of you. Let us examine how the typical manipulation works:
- Normally only one unscrupulous market-maker is involved. The market maker buys a very large quantity of a particular penny stock and pays very little for it.
- He then proceeds to create a market for stock by whipping up sales. He will build up by buying interest by misrepresenting or just exaggerating the prospects for the stock. He can even create some kind of fictitious financial news or development to hype the stock. He may also use online penny stock forums to push his worthless stock.
- He then sells stock to willing buyers who have been duped by his hype.
- Inevitably with all this buying activity, the stock price will rise sharply and the manipulator will turn a nice profit.
- When buying activity ceases, as it must at some point in time, the price will drop sharply and the unsuspecting buyers will be unable to exit from their investment. Even if they manage to sell, they will end up losing a lot of money. In some cases the unscrupulous market maker may buy back the stock and proceed to dupe other ignorant investors.
Penny stocks often hit the market by way of what is known as an Initial Public Offering (IPO). This is a term used to describe the first offering of stock to the general public and any company looking for investment by way of equity from the public will need to start with this process. Naturally a steady flow of IPO’s is required to keep any market fresh and vibrant. Because the penny stock is issued by the new business, it is not automatically mean that the stock is worthless. Every large company worth its name begins life as a small business.