Penny stocks are the lottery tickets of the stock market. For every penny stock that goes on to be a long-term winner, there are hundreds of others that have little or no future. It's not a surprise. Low-priced stocks are rife with danger because most trade over the counter to avoid the oversight and disclosure requirements of larger stock exchanges.
Thus, a random sampling of penny stocks would reveal companies with real problems -- management teams that run the business to fund their personal spending, stock promoters who hope to pump up the share price to dump stock on unsuspecting investors, and companies who have gone through a laundry list of auditors in short periods of time.
Below, three Fool.com contributors make the case for Goldman Sachs (GS -0.23%), AerCap Holdings (AER -1.18%), and Realty Income (O 0.52%) as stocks to buy and hold instead.
Go for the gold, man
Dan Caplinger (Goldman Sachs): Penny stocks are the bottom end of the funnel of capital into corporate America, with tiny companies -- both reputable and disreputable -- fighting for investors' money. At the other end of the spectrum, you'll find Goldman Sachs, which is one of Wall Street's oldest and most prestigious financial companies. Goldman commands the industry, with its institutional investor services, proprietary trading, investment banking advice, and personal financial services all contributing to a growing pie of profit. Even after facing billions of dollars in fines in the aftermath of the financial crisis 10 years ago, Goldman has bounced back sharply and is stronger than ever.
Goldman shares have been under pressure lately, but there's a lot to like about the company's prospects. Of particular note are Goldman's efforts to make a bigger splash in consumer banking, with its Marcus service offering savings accounts and loans. Interestingly, because Goldman doesn't have an extensive network of branches like most of its Big Bank rivals, it can act almost like an internet bank in the consumer space while still getting the brand recognition from its Wall Street operations. When you combine that with the investment banking prowess it's always had, Goldman Sachs looks like a smart opportunity right now.
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The market has yet to reward this high-quality company
Jordan Wathen (AerCap Holdings): This business is as simple as it gets: AerCap buys aircraft and leases them back out to the airline industry and other commercial operators.
AerCap receives a steady stream of cash flows from long-term leases that can last as long as 10 or 15 years, and airlines can afford to put more planes in service, since they aren't limited by how many planes they can afford to buy outright.
As the only publicly traded aircraft lessor with an investment-grade rating, AerCap has a lower cost of capital than any of its competitors. Being able to finance its fleet less expensively means that AerCap can generate a larger spread between what it earns leasing out its planes and what it pays to finance them.
I view AerCap's management team as one of the best in the business. Given that its managers stand to gain more from stock appreciation than from drawing a salary, they're incentivized to generate the best possible returns for shareholders. In the last three years, management has directed the company's excess cash to share repurchases, buying back more than one-third of shares outstanding at cheap prices.
Despite its record as an impressive operator, AerCap shares trade cheap at less than 10 times earnings. In a market with many richly valued stocks, this one stands out as a real bargain.
The complete opposite of a penny stock
Matt Frankel, CFP (Realty Income): New investors are often attracted to penny stocks, and it's easy to see why -- they want to get rich quick by investing in the "next big thing." Unfortunately, most penny stocks represent no-revenue companies, troubled businesses, or flat-out scams.
Here's the most important thing for new investors to know: The most certain way to get rich with stocks is slowly.
One stock that can make you rich over time is Realty Income, a real estate investment trust (REIT) focused on freestanding retail properties (think drugstores, dollar stores, and warehouse clubs, for example). The tenants are largely immune to both recessions and to the e-commerce headwinds weighing on the retail industry right now.
There are two main ways Realty Income generates returns for its investors over time. First, it collects rent from its tenants, and pays it out as dividends to shareholders. This income stream naturally rises over time with inflation. As of this writing, Realty Income pays a 4.6% dividend yield, and the monthly payout has been increased for 83 consecutive quarters.
Second, Realty Income's intrinsic value grows as the value of its underlying property portfolio increases over time. This appreciation combined with the dividend can produce some pretty impressive returns. Since its 1994 NYSE listing, Realty Income has averaged a 15.8% annualized return. To put this into perspective, a $10,000 investment that grows at this rate would be worth more than $800,000 in 30 years. In 40 years, it'd be worth more than $3.5 million.
In a nutshell, Realty Income won't make you rich tomorrow, but it can generate big returns over long periods of time.
