The Next Million-Dollar Penny Stock?

Penny stocks can make you rich.

Need proof? Every one of these multi-baggers was, at one time, a penny stock:

Company

Recent Price

CAPS Stars (out of 5)

5-Year Return

GUESS? (NYSE: GES  )

$31.61

**

761.3%

Tata Communications

$19.80

*****

358.3%

Grey Wolf (AMEX: GW  )

$8.43

*****

150.9%

Service Corp. Int'l (NYSE: SCI  )

$9.75

***

146.2%

Sierra Pacific Resources (NYSE: SRP  )

$10.93

*****

129.1%

Sources: Motley Fool CAPS, Yahoo! Finance.

The promise of outrageous returns is why some of the world's best stock pickers are, at times, penny stock investors. Peter Lynch has and still does enjoy the stock market's super-cheap seats. The Royce Low-Priced Stock fund crushes the market by betting on stocks trading near or below $10 a share, including Fairchild Semiconductor (NYSE: FCS  ) .

Even the All-Stars in our more than 110,000-strong Motley Fool CAPS community take to penny stocks. More than a few have been richly rewarded.

Pennies from heaven
So why not invest in penny stocks? I suppose because the SEC has warned us about them. But what if we take the agency's definition literally and limit our choices to stocks trading between $1.50 and $5 a share? And what if we further limit our choices to four- and five-star stocks whose market cap doesn't exceed $2 billion, but is at least $250 million? Surely our new CAPS screener would return some winners, right?

This week, 35 stocks made the cut -- including our last topper, Oilsands Quest. Let's move on to Argentina's Transportadora de Gas del Sur (NYSE: TGS  ) , which has a small but enthusiastic following among our CAPS community:

Metric

Transportadora de Gas del Sur

CAPS stars (out of 5)

*****

Total ratings

172

Bullish ratings

168

Percent bulls

97.7%

Bearish ratings

4

Percent bears

2.3%

Bullish pitches

20

Bearish pitches

0

Data current as of Aug. 4, 2008.

CAPS investor greenwave3 argues that this natural-gas pipeline company -- the largest in South America, controlled by Brazil's Petrobras (NYSE: PBR  ) -- is as safe a play as you'll find in emerging-markets investing.

"Value? Growth? How about both? This stock has been beaten down nearly to a bloody pulp and what remains is a strong company with a great balance sheet, strong free cash flow, and positive EPS growth," he wrote last week. Continuing:

The valuation of [Transportadora] at these levels is just absurd. For every dollar you invest, you are getting $1.60 worth of equity in this company, along with a negative PEG. Forget about cheap growth. This is growth that is paying you just to hop along for a ride. There is a strong margin of safety built into the current market price. There is simply nowhere to go but up.

If that sounds too bold -- claims of "this stock can go nowhere but up" are usually dubious -- consider that "TGS," as it's known, is trading for its lowest average P/E since 2003. Here's a look at what's happened since.

Will history repeat itself? I think so, but I'm more interested in what you think. Would you buy Transportadora de Gas del Sur at today's prices? Let us know by signing up for CAPS today. It's 100% free to participate.

See you back here next week with another penny stock from heaven. Fool on!

Each month, the Fool's Hidden Gems service spotlights promising micro-cap opportunities in a segment called Tiny Gems. Try this market-beating service risk-free for 30 days to find out what our penny-stock sleuths are following now.

Tim Beyers, who is ranked 20,360 out of more than 110,000 participants in CAPS, is a regular contributor to Fool.com and is a member of the market-beating Rule Breakers team. Petrobras is an Income Investor recommendation. Tata Motors is a Global Gains pick.

Tim didn't own shares in any of the companies mentioned in this article at the time of publication. The Motley Fool's disclosure policy was small and cuddly. Once.


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