How to make big money from penny stocks

When the stock market weakens, many investors see an opportunity to make money from penny stocks. And I am one of them, but be very careful.

In the past 12 months, the FTSE 100 everything is flat. So the 2023 decline so far is just the reverse of the end of 2022 results.

But look at it FTSE Small Cap index. Over the same 12 months, it lost 13%. Lucky for some? Perhaps.

At AIM index, home to many very small growth stocks, has dropped by a huge 24% in the same period.

Risk and reward

So there is more risk of losing money with small stocks, including penny stocks, than with big blue stocks. But I’m sure most people agree.

But the opposite must be true. If they tend to fall in bad times, they’ll gain more in good times, right?

It doesn’t matter if it’s worth £10bn, or less than £100m. If a company looked good last week, and the stock price is down this week with no bad news, it should be doing better now.

long term

Look at the chart again, this time over 10 years, it shows. The FTSE 100 is up 16% in a decade. But the small-cap index rose 58%.

The AIM index is curious. Over 10 years it was only made 9%, but it has a bigger peak from time to time. In April 2021, for example, AIM shares have advanced, up 75% compared to the Footsie’s 9%.

So looking for penny stocks to buy when they are down can clearly be a money making strategy. But I think it needs more treatment, in some key areas.

Endurance

Rolls-Royce suffering in the Covid disaster. These are huge FTSE 100 companies, and they have the leverage to raise the money they need to survive. Now it seems to me that it is set to develop.

But smaller companies can find it harder to raise money when times are tough. Some of the worst ones I’ve seen have to rely on issuing another stock, year after year.

I will not mention my worst example, but issued a massive amount of new shares, and pushed the price down to a fraction of a penny. Those who bought in the flotation have lost 99.99%.

Wipeout?

So, yes, very small companies run the risk of going bankrupt in a bear market. Or, at the very least, diluting shareholders to almost zero.

Even without the slump, debt doesn’t sit well with penny stocks for me. And I also don’t like ‘tomorrow’ that has yet to be profitable. I avoid it, unless I see a reliable profit forecast.

So, for me, there is one important thing. And it is more critical of the financial condition of small companies than of large companies.

That’s why I bought very few stocks. But when I saw one that I thought was really cheap, I went for it.