'Cheap stock'

A penny stock in Kenya standards can perhaps be described as a stock that is selling below Kshs 10. In more developed market it can be described as a stock that is selling below USD 6. At the NSE it has a lot of benefits especially to a trader who has relatively limited funds.

The 2 main advantages that one can derive from trading or investing in a penny stock are the benefits derived from the psychology of other investors, and the volume advantage.

Psychological Benefits

Take a case of safaricom I.P.O. investor drove to the market in large numbers because they perceived it as being cheap mostly because of the kshs 5-offer price. An informed investor would have been aware that necessary that was not the case, however it impossible to control the minds of various investors and still, even some of the more informed investors still fell in that trap. With that said, it will be more beneficial if one understands how s/he can take advantage of this perception.

To illustrate this, assume safaricom is trading at kes 3, it would be relatively easy for it to rise to kes 6(mind you at this new price you would have doubled your money). This is due to the fact that, that at the new highs some investors will still view it as a cheap stock and hence purchase it pushing the demand up. This is cannot be said about a more ‘expensive’ stock trading at kes 200. it would be very difficult for you to double your money to kshs 400, unless under an extremely bullish market.

Volume advantage.

With relatively small amounts of money, it would be more convenient to purchase a huge number of ‘cheap’ stocks as compared to more ‘expensive’ one.

Again, to illustrate, let us assume safaricom is trading at kes 5 and decide to use kes 20,000 to purhase 4000 share/units (assuming am not charge the 2.1% brokerage commission). If the shares rise by 50 cents and I decide to sell. My money will amount to ksh 22,000.

For the case of a more ‘expensive’ stock trading at kshs 200, with kshs 20,000 we can only manage to purchase 100 units/shares. For my money to increase to 22,000 my share price will have to rise to ksh 220 i.e. rising by ksh 20.

Therefore I conclude by noting the fact that, a price increase of 50 cent is relatively easy to be achieved as compared to at of kes 20.