In the U.S., a penny stock is a common stock that trades for less than $5 a share and are traded over the counter (OTC) through quotation services such as the OTCBB or the Pink Sheets. Although a penny stock is said to be "thinly traded," share volumes traded daily can be in the hundreds of millions for a sub-penny stock. Legitimate information on penny stock companies can be difficult to find and a stock can be easily manipulated.

Definition

In the U.S. financial markets, the term penny stock commonly refers to any stock trading outside one of the major exchanges (NYSE, NASDAQ, or AMEX), and is often considered pejorative. However, the official SEC definition of a penny stock is a low-priced, speculative security of a very small company, regardless of market capitalization or whether it trades on a securitized exchange (like NYSE or NASDAQ) or an "over the counter" listing service, such as the OTCBB or Pink Sheets. The terms penny stock, microcap stock, small caps, and nano caps are sometimes all used interchangeably, however per the SEC definition, penny stock status is determined by share price, not market capitalization or listing service.

In the UK markets, a penny stock, or penny shares, as they are more commonly called, generally refer to a stock and shares in small cap companies, defined as being companies with a market capitalization of less than £100 million and/or a share price of less than £1 with a bid/offer spread greater than 10%. In the UK Penny Shares are covered by a standard regulatory risk warning issued by the Financial Services Authority(FSA).

High-risk investments

Many new investors are lured to the appeal of a penny stock due to the low price and potential for rapid growth which may be as high as several hundred percent in a few days. Similarly, severe loss can occur and many penny stocks lose all of their value in the long term. Accordingly, the SEC warns that penny stocks are high risk investments and new investors should be aware of the risks involved. These risks include limited liquidity, lack of financial reporting, and fraud.

Sudden changes in demand or supply of penny stock can lead to volatility in the stock price up or down. A lack of liquidity can also make it extremely difficult to sell a stock, particularly if there are no buyers that day. This can also make the stock extremely difficult to short. Lack of liquidity and volatility also makes penny stocks much more vulnerable to manipulation.

Secondly, unlike NASDAQ or the NYSE, there are only minimal requirements for a stock to be quoted on the OTCBB, namely that they make their filings with the SEC on time. In fact, companies that fail to meet minimum standards on one of the broader exchanges and are delisted often relist on the OTCBB or the Pink Sheets.