Newcomers to the markets usually find themselves attracted to two kinds of shares, those that sell for less than $5 (so-called “penny stocks”) and blue chip stocks.
If you have ever considered getting involved in the stock market, you’ve likely been challenged by the question, “Which kinds of stocks should I buy?” It’s a common query for anyone who’s set to invest a little or a lot in the securities exchanges. Stock investing can be a reliable way to build long-term wealth. And, when approached in the right way, it can help traders and investors earn short-term income as well.
If you hear that the “Dow Jones Industrial Average (DJIA) rose by 12 points today” on a newscast, it simply means that the total average share price of the companies that make up the index, the blue chip stocks, went up by $12. The blue-chips are the shares issued by companies that have been on the exchange the longest and often make up the components of the Dow Jones and S&P major indices.
So, what are the comparative pros and cons of stock investing in penny stocks and blue-chips? There are plenty of arguments for and against each side, but the shortest version is this.
Penny Stocks
For starters, penny stocks, as their name implies, are not expensive. No, they don’t cost one cent per share. The standard definition is that any share priced under $5 but above $1 is a penny stock. For a few hundred dollars, anyone can buy between 50 and several hundred shares of these low-cost stocks.
In addition to the low price per share, penny enthusiasts like the fact that there is a lot of room for huge percentage price gains, and that’s what the real attraction is. For instance, shares priced at $300 apiece rarely double in value overnight. However, many penny shares do just that, soaring from $2, for example, up to $4 or higher. Note, they can fall just as fast, but the allure for many investors is the chance for a massive price rise.
On the downside, pennies are often issued by companies that have not yet proven themselves and have not been able to attract enough investors to bring prices up above the $5 mark, a major psychological line of demarcation in the securities industry.
Another challenge for penny share buyers is that not all brokerage firms allow their clients to own low-cost stocks.
Blue Chip Stocks
The blue-chips have one very powerful selling point: they are in an elite group of the most stable stocks on the exchange. For example, the DJIA consists of just 30 industrial firms on the Dow Jones index. For investors who want stability and a shot at long-term growth, blues represent the very best companies, with the longest histories, on the exchanges.
What’s not to like? The price of blue-chip shares can move at a snail’s pace, and fluctuate back-and-forth within a range for years at a time. However, people who buy blues don’t want lots of price movement. They just want to earn a decent return on their money over the long haul.
Another downside of blue chips is the share price. Unless you work with a broker that allows fractional investing, you will often be priced out of the blue-chip market before getting in. That’s because a single share can cost several hundred dollars.
Is there a solution? For millions of investors, the answer is diversification, or choosing to own a few penny shares as well as several blue chips. One way to get a diversified portfolio is to find a broker who allows fractional share-buying, and then to invest an equal amount of capital into blues and pennies.