Making Cents in Penny Stocks

Editor's note: A previous version of this article contained comments from a CAPS participant that we were unable to substantiate. We have removed those comments from the article. 

"That's what storms were made for
And you shouldn't be afraid for
Every time it rains it rains
Pennies from heaven."
-- Bing Crosby, Pennies From Heaven

If it did rain pennies from heaven, a few good thundershowers would sure do our bank accounts some good. But as Fools, we know that penny stocks are dangerous to our financial situation. Because the world of penny stocks is full of shysters peddling their manipulation and deceit, it's often hard for investors to separate the few good companies that reside there from what's best ignored.

Although many people like investing in penny stocks, believing that such stocks have a better chance of increasing many times in value, there's nothing that says a $20 stock can't double, triple, or quadruple in value just as easily as a cheaper one could. Considering that a cheap stock may be cheap for a very good reason, there's ample evidence to suggest that the higher-priced stock may actually have a better chance of going up than the cheap one does.

Still, many investors dabble at the low end of the stock-price spectrum. At Motley Fool CAPS, we note the investors who, more than half the time, rate stocks trading in the single digits, and we give them a saucy name -- "Pennies." Believe it or not, you'll find some of the best CAPS All-Star investors among them.

Pinching pennies
This week, we'll take a look at some of the low-priced investments that these All-Stars have identified as possibly the best and worst stocks. If the best investors who regularly scan this end of the market have singled out these companies, we might want to turn our umbrellas upside-down.

Here's a list of low-priced stocks that the All-Stars say will outperform the market:

Company

Price

CAPS Rating (out of 5)

Player

Player Rating

Level 3 Communications (Nasdaq: LVLT  )

$4.84

****

ETLA

99.15

Golden Star Resources (AMEX: GSS  )

$4.28

*****

ltmm

98.62

American Software (Nasdaq: AMSWA  )

$9.11

*****

Iraken

99.24

And here's a list of those they think will underperform:

Company

Price

CAPS Rating

Player

Player Rating

TOUSA (NYSE: TOA  )

$1.22

*

zygnoda

99.68

Hoku Scientific (Nasdaq: HOKU  )

$9.85

*

ETLA

99.15

Home Solutions of America (Nasdaq: HSOA  )

$3.47

*

ltmm

98.62

As we delve into low-priced "pennies," we find that the All-Stars we highlight here are not the only ones who like -- or dislike -- the prospects the companies face. Home Solutions, for example, has drawn passionate partisans to both sides.

On the bearish side, it has drawn top-rated All-Star TheGarcipian, who bluntly writes that he thinks that, based on his research, the company is a scam.

I discovered Home Solutions seems to be a house of cards: crooked management with ties to convicted felons and consumer fraud; a H-U-G-E 39.6% short float (I'd bet I couldn't even find anyone to loan me their shares so I could short it!); incredible share dilution; very possible fraud connections in setting up shadow businesses to boost their own image/income; and it's been a 1-Star CAPS stock for the last 6 months (things ain't getting better, despite their "press release")...This one's gonna [be] washed away by the hurricane surge that will certainly engulf them when their scandalous ways are finally known to the general public and its investors. Big thumbs down!

For the bulls, CAPS player tridenttn thinks there are vested interests determined to see Home Solutions sink.

HSOA is a solid, growth story that has been unfairly beaten down by short selling ... The company's revenues grow sequentially in the high double digits, and their business model is not only diversified across 5 levels, but has solid potential for double and triple digit gains.

Make some change
There you have it -- some of the top CAPS investors giving their reasons why these "penny stocks" may or may not be a good investment. What do you think? Should we break out the change jar to buy them, or ignore them like discarded pennies on the street?  Put in your two cents for free on Motley Fool CAPS.


Read/Post Comments (5) | Recommend This Article (6)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On October 11, 2007, at 4:11 PM, tacman1123 wrote:

    I can't believe Motley Fool quotes a CAPS investor who has exactly ONE pick (HSOA), has been a member for less than 3 weeks, and proclaims that the reason the stock is down is due to a short seller involved in fraud, embezzlement, etc.

    It's one thing to let pumpers infiltrate CAPS by joining and posting their opinion. But to quote them in an article without checking up on their facts reflects poorly on MF.

    The only reason tridentt was quoted is that there are so investors articulating ANY arguments for owning this stock. But like newspapers that want to provide "balance" by quoting from people who don't think smoking causes cancer, in this case it's providing a platform for deceit and misinformation.

    If the strongest argument one has for owning the stock is attacking a short seller who has a excellent track record for picking dogs, then perhaps that argument is better left unpublished.

  • Report this Comment On October 12, 2007, at 1:26 AM, Armonster20 wrote:

    Wow, nice call tacman. Thanks for the heads up. In my opinion the article should be updated to reflect this information and provide "full disclosure."

  • Report this Comment On October 12, 2007, at 12:31 PM, TMFCop wrote:

    tacman1123,

    The Bull arguments weren't included for the sake of "balance." Sometimes an opposing view can help a reader sort out differences of opinion.

    Certainly, though, in this particular instance, greater caution was due my readers before including such inflammatory remarks without substantiation and they've since been retracted.

    My apologies to all,

    Rich

  • Report this Comment On October 13, 2007, at 11:13 PM, blondeoneHSOA wrote:

    Why was tridents comments on Citron Research taken out of his post here.

    It was here yesterday...Friday...Oct 12.

    Did Andrew Left of Citron Research complain to TMF? Obviously someone did.

    If Andrew Left(Citron), Roddy Boyd(NY Post) and Nicholas Yulico(Street.com) have communicated to post articles to manipulate the stock of HSOA....then they can be prosecuted. If a hedge fund is also involved...then the hedge fund will also be prosecuted...much like Enron was prosecuted.

  • Report this Comment On October 14, 2007, at 8:20 PM, engr456 wrote:

    The Garcipian attempts to establish Home Solutions as illiquid and unable to pay its subcontractors, makes many allegations and accusations about fraud with no proof of fact presented.

    As such these statements should be viewed as just rainting unfounded statements of a stocker basher.

    The company finished Q2 with over $4mm of cash, $51mm of accounts receivable - net of payables - and significant borrowing capacity remaining. The statements made serve as a poor basis for drawing larger conclusions relative to the $50mm Q2 reported revenues and the $198.7mm FY 2007 revenue projection.

    Subcontractor payment disputes are very common to this industry and almost always revolve around the quality of work relative to the contract agreement.

    Informed investors should remain focused on the improving company fundamentals, attractive valuation and growing construction services backlog.

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