Tuesday, September 18, 2007

The Whole Truth About Small Caps

Talk to most traders and ask them about the OTC markets, and you'll likely get either a story about someone who made it big, or someone who lost it all. Like Las Vegas, investors can always tell you a story. The question for you is simple: is this a place to invest your hard earned money.

The answer is yes and no. The key is in recognizing the risk involved. Keep risk to a minimum by identifying which small caps have potential, and which are a trap, and you may find yourself in the staring role of one of those stories about the guy who made it big. If you fail to take heed of the warning signs, you'll find your money, hopes and dreams fade just as quickly as gamblers in Las Vegas.

The very fact that small caps trade at such low volumes increases the risks involved in investing in them. The Securities and Exchange Commission (SEC) strongly suggests traders of small caps to remember that these stocks typically trade with very low volumes on average. This makes finding buyers when you want to sell, and sellers when you want to buy more difficult. As a result, you may not get the stock at the price you want. This can result in buying too high

Despite the risks involved, small caps are often attractive investments to investors for various reasons. If you are new to investing and looking for the chance to return a high yield for a relatively low investment you are likely to come across some microcaps. Its not surprising that investors are attracted to small caps. A move of a few hundreds of a penny can mean big returns for you. For a $0.10 stock to move up 20% requires a move of only $0.02. If the stock moves to $0.20, you have doubled your money. If the stock starts to move, you can double or triple your money within days. You won't find that kind of return on the major stock exchanges.

On the other hand

There is also a strong potential for fraud with some buyers artificially 'enhancing' or driving the costs by buying large amounts of shares and raising the perceived value of essentially worthless stocks. Most investors who fall for this lose many when it comes time to sell.

Most financial advisors will suggest not investing more than 10% of your portfolio on microcaps

It is important to remember that not all of these companies are frauds and many of them have a great deal of potential. Some are new businesses that are working hard towards their goal of earning a spot on the larger exchanges. Do your research in order to decrease your risks of landing with a declining or dishonest company. Often, most traders are often convinced that one good investment can make them a nice tidy profit. While this is true it is better to invest in a company that is showing slow and steady growth than one you are hoping will sky rocket over night. Take the time and do your research rather than gambling with your investment.

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