So, you want to get rich? That means you’re just like everybody else. It always feels good to be a part of a large club. However, you’re really part of a smaller club if you want to get rich fast. This approach is often frowned upon since it usually leads to massive losses. On the other hand, there have been many exceptions.
If you’re looking to get rich fast, then the first type of investment that popped into your mind might have been penny stocks. In the past, a penny stock was a security that traded for less than $1 per share. Today, the Securities and Exchange Commission (SEC) defines them a stock that trades for less than $5. It’s important to understand that there’s a tremendous difference between those two definitions. The vast majority of stocks that trade for less than $1 either represent companies nearing bankruptcy or new macro-cap stocks that are trying to scratch their way to a more respected exchange. Stocks that trade between $1 and $5 are sometimes well known names that have fallen on hard times. These companies have the potential to bounce back in a big way while not presenting as much risk as true penny stocks. Two good relatively recent examples are Ford Motor Co. (F) and Fifth Third Bancorp (FITB). (For more, see: The Lowdown on Penny Stocks.)
In order to avoid confusion, there’s an easier way to define a penny stock. If it trades on the Pink Sheets or the OTCBB, it’s a penny stock. It’s not impossible to find winners here, but it’s like trying to find a needle in a haystack. If you go in guessing or following a friend’s recommendation, then you’re likely to lose your entire investment.
There is a way to profit from this manipulative arena, but it’s extremely high risk. Pump and dump scammers will often send out brochures through snail mail or email touting the extraordinary potential of a penny stock. If you can get in earlier than the crowd — a crowd that will artificially drive up the stock price — then you can make a lot of money in a short period of time. You would also need to sell very fast prior to the stock tanking. This strategy is not recommended. You would be better off looking at some alternative approaches to penny stock investing. (For more, see: How to Evaluate a Micro-Cap Company.)
An IPO is an initial public offering. By investing in an IPO, you’re investing in a company without having a lot of information. In some cases, the stock is driven higher based on sheer hype, then plummets a few weeks or months later. This pattern is similar to a penny stock. However, in this case the stock won’t go to $0 in just a matter of weeks or months. Therefore, if you only invest a small amount of allocated capital in what you deem a high-potential stock while keeping the remainder of your powder dry, then you could lower your cost basis and increase your profit potential. If the IPO continues to perform well, you still have a winner. (For more, see: Top 5 IPO Flops of 2014.)
Leveraged exchange traded funds (ETFs) are very dangerous investments. The allure of seeing exceptional returns in just one day is what keeps investors coming back. But the hidden risk is the expense ratio, which is often around 0.95%-1.20%. This limits profit potential and exacerbates losses. On the other hand, if you know with absolute certainty that an industry, commodity, or currency is going to move in one direction opposed to another in the near future, you could see astronomical returns. The problem, of course, is that it’s very difficult to time the market. It might be the case for the broader market, but it’s not the case for specific markets. (For more, see: Dissecting Leveraged ETF Returns.)
For example, if the Federal Reserve is done printing money and the European Central Bank (ECB) and Bank of Japan (BOJ) are printing money at record rates, then the U.S. dollar is obviously going to appreciate. This is simple logic. This trade won’t last forever but it’s a trend. You can use ETFs to your advantage in cases such as these.
Do people sometimes ask what you do for a living? Nothing can sound sweeter than, “I’m a venture capitalist.” You have probably seen Shark Tank. During one episode, one of the sharks says to Mark Cuban, “You invest in everything.” Cuban’s response: “I know. That’s why I’m rich.” (For more, see: How Venture Capitalists Make Investment Choices.)
In other words, a good venture capitalist broadly diversifies his investments, knowing that the returns for the big winners will greatly exceed the losses on the losers. However, it’s imperative that you still invest wisely. What is the management team’s history? How much debt is being taken on? How will that debt be repaid? Is the business in a growing or dying industry?
A few other alternatives to penny stock investing are flipping houses, playing options, and investing in emerging market stocks. Flipping houses can lead to fast returns, but only if you hire the right contractor and you’re in a hot market. Good timing is imperative. Options are a good hedging tool, but shouldn’t be played outright. Not much is worse than watching a stock appreciate 4% but you can’t enjoy the gain because you have an option to purchase it at a 5% gain. (For more, see: The 10 Riskiest Investments.)
Investing in stocks in emerging markets can be profitable, but you must do your research on what’s taking place in that emerging market at the current time. For instance, China is a guessing game at the time of this writing. In order to show gross domestic product (GDP) growth, the government has grown its real estate market too fast, which will likely lead to a real estate bubble never seen before throughout history. On the other hand, China does have real growth in many other areas, and it’s a good long-term story. A safer yet slower-paced bet is India, where there is enormous room for fiscally-responsible growth. Other emerging markets include Argentina, Chile, Egypt, Russia, Brazil, Indonesia, South Korea, Malaysia, Pakistan, Poland, South Africa, Thailand, Turkey and Venezuela. Some of these markets are still emerging while others aren’t. For instance, Russia and Brazil are high risk at the moment. (For more, see: Emerging Markets to Avoid in 2015.)
The Bottom Line
If you’re looking for fast returns, consider some of the ideas above. That said, it’s highly recommended that you stick to investing in large-cap companies that have demonstrated resiliency, deliver consistent top and bottom-line growth and pay generous dividends. (For more, see: 4 Oil Penny Stocks to Watch.)
Dan Moskowitz does not own shares in F or FITB.