Strategies on how to find penny stocks should focus on pinpointing speculative stocks that above all have real value—and aren’t just promotions

A penny stock typically trades for under $5 per share, and as the name implies, sometimes for pennies. Most of the time they’re young companies, or in speculative markets such as mining exploration or early-stage technology, or another emerging business.

Buying penny stocks can lead to a big payday when you make the right choice. But the odds against success are high. Penny stocks are almost always involved in riskier ventures, such as finding mineral deposits that can be mined at a profit, commercializing unproven technologies or launching new software. Below we share some Successful Investor tips on how to find penny stocks.

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How to find penny stocks: Make sure you stay away from promotions

You should be aware that many penny stocks are little more than very well executed marketing campaigns. Penny stock promoters will do anything in their power to get their penny stock noticed. These extensive marketing campaigns include emails, TV interviews, podcasts and self-produced newsletters.

There are also some so-called news websites that will sell sponsorships to penny stock promoters. These are great opportunities for penny stock promoters but bad for investors looking for an unbiased opinion on a stock.

Penny stock promoters love to make deals—however small or indirect—with major, well-known firms. These deals aim to gain the trust of investors as, indeed, all penny stocks do. The penny stock hopes that the link with a major brand will give it instant credibility, even if the company itself is far from being able to achieve significant targets or a profit.

Not all penny stocks and their promoters are out to cheat investors. But it’s important to approach any penny stock with a very healthy dose of skepticism.

How to find penny stocks: Stay away from the limelight

When investor expectations are high, it pays to be skeptical and wary of them. That’s why as a key part of our Successful Investor philosophy we advise downplaying popular stocks that are in the broker/media limelight. That’s especially the case with penny stocks in the limelight.

When brokers or media focus that kind of attention on a stock, it tends to push up investor expectations.

When popular stocks fail to live up to those expectations, as most inevitably do, their stock prices can plunge.

How to find penny stocks worth investing in: The main factors we look for

• We look for well-financed penny stocks with no immediate need to sell shares at low prices, since that would dilute the interests of existing investors.
• We want to see experienced management with proven ability to develop and finance a new business.
• We like to see a strong balance sheet with low debt. Even better, we like to see a major partner who can finance the mine, software and so on to production.
• We insist on political stability. For example, mineral exploration is risky enough without the threat of expropriation or onerous taxes.
• We avoid stocks trading at unsustainably high prices due to broker hype or investor mania.
• We avoid stocks trading over-the-counter where regulatory reporting and so on is lax.
• We compare the market cap of the stock with the estimated value of the company’s mineral reserves, its future product sales and so on. Some pennies need to find a mine, or successfully market a lot of their software, or other products, to justify the current share price and avoid collapse.

Buying low-quality penny stocks is one of those things that can appear to be successful before it goes badly wrong. Some investors get hooked on it, since low-quality stocks can be highly profitable over short periods. That’s because they are generally more volatile than high-quality stocks that meet our Successful Investor criteria.

Bonus Tip: How to find penny stocks: Take a look at various markets, but in particular the TSX

The TSX is the abbreviated name for the Toronto Stock Exchange. The TSX is the largest stock exchange in Canada and the third largest in North America. Of particular note is the Toronto Stock Exchange has more oil and gas company listings than any other stock exchange in the world. The Toronto Exchange started up on October 25, 1861. The TMX Group operates a number of stock and commodity exchanges, including the TSX.

Like most other major stock exchanges, the TSX is highly regulated. The Toronto Stock Exchange lists common shares of companies, but also index securities such as ETFs.

What ways have you been able to find penny stocks worth investing in throughout your investing career? Have they led to financial success or failure?

Do you avoid penny stocks at all times, or do you feel there are some worth a close look?