The Beginner’s Guide: Penny Stocks, Microcaps and the OTC Market
- March 1, 2021
- Posted by: Kirsten Campbell
- Category: Blog
Thanks to the GameStop frenzy, penny stocks and the OTC market have witnessed a red hot surge of interest from novice and experienced retail investors. In December and January, more than one trillion shares were traded each month. In February, daily volume has been roughly 64% higher, making it possible that the past month will have resulted in 2 trillion shares traded, according to Yahoo Finance.
What does this mean? GameStop is not the only ‘game’ in town, nor are exchanges like NYSE or Nasdaq the only sandbox to play in. Be mindful, the wealthiest 10% of Americans own 92% of stock market gains and 1% own 50% of that. So unless you plan to claw and scrounge your way to that paltry 8%, in a venue where you’re not necessarily wanted, the OTC markets might be where you find some love from penny stocks and microcaps. Of course, financial literacy is key, so educating yourself on the basics of how the Microcap marketplace relates to the broader markets is essential for anyone looking to dip their toe into the stock market.
Without further ado, let’s quickly untie this knot.
What is the OTC market?
For simplicity’s sake, the Over-The-Counter (OTC) market is a place where non-listed securities are quoted and traded.
What the heck is a listed security?
These are securities that trade on ‘major’ exchanges, such as Nasdaq or the NYSE (New York Stock Exchange).
Today, we are focusing on the OTC (Over-The-Counter) market, as it relates to Microcaps and Penny Stocks.
What gets traded in the Over-The-Counter Market?
Penny stocks are what the OTC market is most widely known for. However, you can find a whole range of microcap and/or nanocap stocks, currencies, other equities, American Depository Receipts (ADRs), Derivatives, Bonds, etc.
Check out the OTC Market Group’s current market (active list) and you’d also be surprised to find brands like LVMH (Moet Hennessy Louis Vuitton) and Burberry Group Plc trading on the OTC market—bet you didn’t see that coming!
Aren’t Penny Stocks and Microcap Stocks the same thing?
No, by definition, they are not one in the same.
- Microcap is a designation for companies whose capitalizations are generally between $50M and $300M.
- Penny stocks, amongst other conditions set by the SEC, are stocks that trade below $5 per share.
And just to round the bases, nanocap is the designation for companies whose capitalizations are below $50M.
But aren’t most microcap stocks, penny stocks?
It would seem that way due to the inaccurate way the terms are often interchanged.
As of the date of this writing, there were 747 searchable companies on the OTC Market Group’s website that were priced at or greater than $5.01––whereby these companies are NOT, by definition, penny stocks. Amongst the search results you will find companies with market capitalizations between $50M and $300M, making them “microcaps”, as well as companies with capitalizations below $50M, making those “nanocaps”.
Never heard of nanocap stocks, wtf?
Don’t beat yourself up over that. As with the mental challenge of differentiating the OTC market and microcaps, microcaps and nanocaps are often conflated into a single term—microcap—which is often intended to represent any company having a low capitalization.
So, is the microcap market and the OTC market interchangeable terminology?
Nope! Not at all. However, just as it is commonly believed that Columbus discovered America, it is commonly thought that the Microcap market and the OTC market are synonymous.
Who coined (ha!) the term penny stock?
No one in particular, it’s just because historically, it was commonplace to refer to any
stock you could purchase for ‘pennies on the dollar’ as “penny stocks.” As you can see, the industry isn’t very imaginative with regards to naming. Come on, we aren’t marketers or anything 😜
Does the OTC market offer gains even comparable to the bigger fish?
From time to time, it certainly can. During bull markets, microcaps “tend to outperform their larger counterparts”, according to Investopedia. From 2008-2018, the Dow Jones microcap index edged out the S&P 500 index, with respective annualized returns of 11.6% and 10.37%.
Encouragement for Financial Literacy
Remember, we are not investment or financial advisors and the aforementioned information barely scratches the surface. We are advocates of financial literacy and encourage everyone to please educate themselves before they consider investing. Always remain vigilant. The OTC market is still a financial marketplace and penny stocks carry with them the inherent risk of investing in and trading securities.
So be smart. Do your research. Learn not only about merits and fundamentals of a specific company, but on how the OTC market works, the nuances of trading microcap companies and when/how penny stocks become listed securities.
Curious to learn more? Check out these resources in the meantime:
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This information is being provided solely for educational purposes and reflects our efforts to distill public information into understandable and easily understood explanations of financial information. As such, the information is only to serve as a starting point for your further investigation and education of the financial markets by consulting with other public sources regarding penny stocks, microcap stocks, and OTC Markets, such as sec.gov, otcmarkets.com, investopedia.com and google.com. To the fullest extent of the law, we will not be liable to any person or entity for the quality, accuracy, completeness, reliability, or timeliness of the information provided.