Penny stocks aren’t for the faint-hearted. These tiny enterprises are the pinnacle of volatility within the stock market and, in most cases, fail to deliver on their lofty promises. And over the last couple of years, many investors were abruptly reminded of this reality as surging valuations came crashing down.
With the correction decimating the value of equity and debt being too expensive for these often financially-weak companies, many have faded into obscurity. Meanwhile, higher interest rates have unlocked far tastier risk-free returns through classic savings accounts.
Yet, despite the grim recent performance, penny stocks may be the far wiser pick in 2024 for some investors. Let’s take a closer look.
Maximum risk, maximum reward
It’s no secret that getting in early can be enormously profitable. Investors who saw the opportunity in companies like Apple, Netflix, and Amazon while they were still in their infancy have seen even a few thousand pounds turn into millions. This explosive growth potential is why penny stocks continue to be enormously popular despite the lottery-like risk.
So what’s special about them in 2024? With the economy going through turbulence, many small businesses have met their demise. This includes many penny stocks that either ran out of funding or failed to deliver on their promises.
While unfortunate, this elimination has created two distinct advantages. Firstly, the businesses that remain have just seen a wave of potential competition be wiped out. And secondly, the search for the next industry titan has also been narrowed down for investors.
Does that mean investors should just snap up all the interesting-looking penny shares they can find in 2024? Of course not. Just because a firm has survived an economic wobble doesn’t guarantee success.
So how can investors determine whether a small business is investment-worthy?
Stock picking on a micro-scale
Picking stocks requires a lot of nuances. There’s no single magic formula since every industry requires different considerations. However, there are some overlapping factors that can be used to isolate the most promising candidates for a portfolio.
When it comes to dealing with micro-cap companies, I personally start by looking at two factors: strategy and funding.
As every entrepreneur knows, starting a business is hard work. Even if a product is excellent and revolutionary, it’s ultimately meaningless if the management team doesn’t have a viable strategy to get it out in the world.
Talented leadership is hard to come by among penny stocks since these businesses often lack the experience of large-cap executives. But a management team that can communicate their strategy effectively and explain why it’s viable is already a huge plus. It’s then up to the investor to investigate how realistic these expectations are.
Of course, a good strategy is useless without the funding to back it up. Penny stocks are often loss-making. Some are even pre-revenue! So it’s paramount to investigate where the money is coming from and whether there’s enough to cover the cost of executing the group’s strategy.
Needless to say, a well-funded enterprise is more likely to succeed.
