Before I invest in any stock, I make sure I do my research. Sometimes, I can buy a stock that I believe has great potential, only for it to head south. This can happen to us all. But on balance, being a well-informed investor is a much more profitable endeavour than simply following the crowd and buying whatever is hot in the moment. When it comes to UK penny stocks, the same wisdom applies.
Key points regarding UK penny stocks
Technically, a penny stock is any UK share that has a price of less than £1. As such, there are many listed companies that fit this description. Most are smaller-cap stocks on the AIM market. Yet some FTSE 100 and FTSE 250 companies also have a share price below £1. For example, the Lloyds Banking Group share price is currently around 42p.
Typically though, UK penny stocks tend to carry higher risk than other stocks with a higher market price. This is because a very low share price is usually associated with a smaller business.
If two companies have the same number of shares issued, and one trades for 10p and the other £10, the penny stock is usually classified as smaller (and riskier). This is because the other company likely has a higher market capitalisation (number of shares x share price). This makes it easier to issue new debt and new equity, as the company has a higher value to stakeholders.
So what can I do if I like the look of a UK penny stock but want to try and limit my downside?
Things I look out for
First, I’d always look at the company financials. Sometimes I see UK penny stocks get a lot of news coverage due to the share price shooting higher. When I take a look, it’s often bounced because of speculation or potential action. This causes a divergence between the value of the company based on the balance sheet versus the current share price value.
For example, Greatland Gold is a UK penny stock that has seen the share price soar over the past year. Yet incredibly, the company didn’t register any revenue in the latest annual report. Arguably, the rise in the stock price is purely based on expectation of the future value of the mining company and the projects being undertaken.
This isn’t necessarily a bad thing, but I just need to be aware about this when considering a purchase.
Second, I’d check for major shareholders on any UK penny stock I’m keen on. Technically, any public company has to publish the shareholders that own over 3% of shares in the company. For smaller companies, this is quite easy to see. The benefit to me is seeing whether any institutional investors have bought in. This could indicate my thinking is on the right path.
Checking on major shareholders also gives me an indication as to whether the founders are still involved, what proportion of shares are in public hands, and other useful information.Â
Overall, UK penny stocks can be high-risk, but digging deeper into the company before investing can help me reduce my risk.