Penny Stock
The term “penny stock,” as it is used in the financial press and IPO research, has no precise meaning. The definition may be based on listing requirements. For example, starting in August 1991, the Nasdaq National Market required that stocks have a minimum bid price of $5, and the Nasdaq SmallCap Market required a minimum bid price of $3. In 1997, the minimum bid price was changed to $4 for the Nasdaq SmallCap Market. Alternative listing criteria and discretionary exceptions allow some firms to be listed with lower prices.
The market for penny stocks has changed dramatically over the last few decades. Prior to the development of the Nasdaq market in 1971, these stocks were typically traded over the counter or on regional exchanges, often with very limited disclosure requirements. Particularly before the PSRA, the penny stock market was plagued by unscrupulous broker-dealers and underwriters. “Boiler room” tactics were common, with unregistered “brokers” cold-calling primarily unsophisticated investors and using high pressure sales techniques to induce investment.
Guidelines provided by the PSRA and Section 17 (§240.3a51-1) of the Code of Federal Regulations (CFR) and define a penny stock IPO as an issue that meets the following three criteria:
- It is not issued by an investment advisor (e.g., it is not a closed-end fund),
- Its offer price is $5 or less, and
- It is not listed on a national exchange or market.
The PSRA and Section 17 of the CFR identify $5 (net of fees and commissions) as the price cutoff for classification as a penny stock. In addition, the PSRA and Section 17 of the CFR categorize the NYSE, AMEX, and Nasdaq National Market as a “national exchange or market.” Thus, we classify IPOs listed on the NYSE, AMEX, or Nasdaq National Market as “ordinary” without regard to their offer prices. IPOs listed on other markets (such as the Nasdaq SmallCap Market, OTC Bulletin Board, pink sheets, or regional exchanges) are classified as penny stocks if the offering is not issued by an investment advisor and the offer price is $5 or less.
There is no set, accepted definition of penny stock. Some people define it as stock priced under one dollar, some under five dollars. Some people include only those securities traded in the “pink sheets”; some include the entire OTC market. The Securities Division considers a stock to be a “penny stock” if it trades at or under $5.00 per share and trades in either the “pink sheets” or on NASDAQ. In addition, a true penny stock will have less than $4 million in net tangible assets and will not have a significant operating history. (In other words, if a company has real assets, such as equipment and inventory, and is engaged in some real business, such as manufacturing, then the Division does not consider the stock to be penny stock even though the shares are low-priced.)