Blue chip stocks and penny stocks are among the different classes of stock available for trading. While blue chip stocks are generally known to offer attractive prospects, many investors consider penny stocks risky. So, what are the differences between blue chip stocks and penny stocks, and which is the better investment choice?
Blue chip stocks are much more expensive than penny stocks. They’re shares from profitable firms, hence offering investors stable income and growth in value. Conversely, penny stocks are cheap, speculative stocks from small, little-known firms. They are highly volatile and yield poor long-term returns.
Are you considering investing in stocks but unsure which ones to go for? In this article, I’ll walk you through the main differences between blue chip stocks and penny stocks and share a macro perspective on selecting good stocks to invest in. Furthermore, in this article, you will also discover which of these two stock categories makes a better investment choice based on your individual investment goals.
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The Differences Between Blue Chip Stocks and Penny Stocks
Blue chip stocks are shares from large, profitable, and prestigious companies. These stocks boast a long history of paying dividends through good and bad years. While they are typically more expensive than lesser-known or small company stocks, blue chips offer investors stable, reliable income and a steady growth in value.
In contrast, penny stocks are inexpensive stocks from companies with dicey prospects. Selling at $5 or less per share, they attract investors with an appetite for high risk and high return. Most of these companies will likely never turn a profit, while others will go bust. Despite this, their appeal lies in their potential to increase in value dramatically.
Let’s look at the differences between blue chip stocks and penny stocks in greater detail:
Blue Chip Stocks Are From Established Firms While Penny Stocks Come From Small or Newly-Established Companies
As mentioned earlier, blue chip stocks come from large, established, and well-performing companies that are leaders in their respective industries. You will find these stocks listed on major exchanges like Nasdaq or the New York Stock Exchange. Examples include Apple, IBM, and Coca-Cola. The businesses behind the stocks have good reputations, sound financials, strong fundamentals, and are transparent about their governance.
Penny stocks come from new and small-sized companies. These stocks may also be from more suspicious businesses and may even be a source of pump-and-dump scams. These are scams in which paid promoters hype up a stock so that insiders can sell it off at a higher price.
Blue Chip Stocks Are Pricey While Penny Stocks Are Cheap
Blue chip stocks are expensive. A new investor may not be able to invest in them since they require a huge capital outlay.
However, because penny stocks cost, well, pennies, you need much less money to buy thousands of these shares. This makes them immensely appealing to new investors with limited capital.
Blue Chips Boast Proven Track Records but Penny Stocks Are Speculative
Blue chip companies offer investors steady or rising dividend yields and attractive growth prospects in the long term. They also give investors a greater level of safety in volatile markets. Penny stocks, on the other hand, often rely on luck rather than company fundamentals to become profitable. As such, they mainly appeal to speculative investors.
The thing that investors should keep in mind is that investing in penny stocks is extremely risky. While they can be highly profitable in the short term, they are also rather volatile, which means that things can often go horribly wrong, and you could end up losing your entire investment. That’s why it’s not advisable to hold on to penny stocks for the long term.
There’s a Remarkable Difference Between Blue Chip Stocks and Penny Stocks Overtime
The best blue-chips to invest in are those with a profit record history of between 5-10 years. This is because profit-making companies are safer to invest in than those that make money occasionally. Additionally, they give investors a higher level of safety in turbulent markets.
Penny stocks sport attractive prices, but the average stock delivers poor long-term returns. Furthermore, these stocks are easier to manipulate than other stocks trading on exchanges due to their low trading levels and volatile pricing (penny stocks are usually traded over-the-counter). Additionally, the companies involved often invest in risky ventures like launching new software or marketing unproven technologies.
Even worse, some penny stock exchanges lack regulatory oversight, which makes these companies ridiculously easy to launch. As a result, investment frauds occur more often than not with these stocks.
Blue Chips Have High Liquidity While Penny Stocks Lack Liquidity
Blue chip stocks comprise a significant part of the total market value of listed stocks trading on most exchanges. However, penny stocks sport low trading volumes or liquidity, which makes selling them a little challenging. They are also prone to significant price fluctuations. Therefore any major stock market or business news can cause their price to change significantly.
Here is a summary of the differences between blue chip stocks and penny stocks:
|Blue Chip Stocks||Penny Stocks|
|From large, profitable companies||Speculative stocks from small, new, or little known firms|
|Fairly expensive||Low-priced (sell for under $5)|
|High Liquidity||Low liquidity|
|Dividend-payers||No history of paying dividends|
|Traded on the stock exchange||Traded over the counter or on Pink Sheets|
|Steady income and growth in value||High price volatility and poor long-term returns|
|Dividend-payers||No history of paying dividends|
Which Is the Better Investment Choice? Blue Chip or Penny Stocks?
It’s advisable to hold the largest part of your investment portfolio in shares from blue chip companies. Look for well-established, dividend-paying companies. They should have sound financials and offer above-average growth prospects in expanding markets.
That said, if you still wish to invest in penny stocks, let them form a small part of a diversified portfolio. The rule of thumb here is to only invest money you can afford to lose.
The best investment choice is the one that works for you and suits your investment objectives. If you are risk-tolerant and manage risk well, penny stocks can help grow your portfolio quickly. However, if you prefer less volatile and more reliable and stable stocks, you should choose blue chips.
How To Choose Good Penny Stocks?
It’s possible to make money from penny stocks if you possess excellent analytical skills to determine the good ones. The only drawback is that the odds are highly stacked against you. With that in mind, you need to be extra cautious when buying penny stocks.
So how do you identify good penny stocks? Do your due diligence and look out for the below traits:
- A solid balance sheet. A business offering high-quality penny stocks should sport a reasonably sound balance sheet. Also, they should have minimal debt, exhibit strong fundamentals and be competitive in their industry.
- Up-and-coming technologies. Go for penny stocks in new, upcoming technologies, such as tech firms with existing or upcoming products. Promising start-ups with innovative business ideas are also viable.
- Look for earnings or cash flow. Avoid loss-making companies. A company that announces a profitable partnership is a good bet.
It’s important to bear in mind that penny stocks tend to make big percentage moves very quickly. As such, you need to monitor your stocks constantly to take advantage of any upswings. Also, intelligent penny stock investors view their shares merely as a means of earning profits. Hence, you need to learn to cut losing positions and avoid pinning your hopes on specific stocks.
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Understanding the differences between blue chip stocks and penny stocks is essential in determining the best investment choice for you. It can also help protect your portfolio from huge losses.
Ultimately, you need to have the right skills to analyze the different companies and their offerings. Knowing how penny stocks and blue chips work will help you reduce the risk in your portfolio and help you choose how to diversify your money in the way that works best for you.
BEFORE YOU GO: Don’t forget to check out my latest article – ‘7 Proven Steps To Profitable Trading’. I surveyed 5000+ traders (and interviewed 50+ consistently profitable traders) to identify 7 statistically proven steps that will help you become a consistently profitable trader. No matter where you are in your trading journey today, I am confident that you will find this article helpful!
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