Could Penny Stocks Help You Diversify Your Portfolio?

You’ll often hear that having a diverse investment portfolio is an important part of not only growing wealth, but protecting yourself against stock market downturns. And there are different things you can do to diversify your holdings.

Loading up on index funds is a good way to hit that goal, but with index funds, you don’t get a say over the companies you’re investing in and you may not want to give up that power. You can also diversify by buying enough individual stocks across a range of market segments. And if that sounds like a better fit for you, you may be interested in adding penny stocks to your portfolio.

Penny stocks generally trade for under $5 a share. Because of their low price point, they’re easy to acquire, and they can, technically speaking, lend to added diversity within your personal investment mix. But if your goal is to load up on more stocks than you own now, penny stocks may not be your best bet.

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The problem with penny stocks

You’d think that because penny stocks are so cheap, they’re not all that risky. But while you may not lose a lot of money on an individual share basis by buying penny stocks, the companies behind them tend to be very speculative. Buy enough penny stocks, and you could be looking at serious losses if those companies fail.

Another thing to consider is that most penny stocks don’t trade on the major exchanges, so they don’t have the same stringent reporting requirements as stocks that trade on the Nasdaq or NYSE. The result? It’s harder to do your research on penny stocks and see if they’re a viable investment.

A better solution

If you want to add individual stocks to your portfolio without spending a ton of money on a per-share basis, fractional shares may be a far better solution than penny stocks. With fractional investing, you buy a portion of a share of stock instead of acquiring a whole share.

Many brokerage accounts today offer fractional shares and allow you to add more companies to your personal mix without having to sink too much into individual shares. For example, if there’s a company whose stock price is trading at $400, you could invest $100 in that stock and own one-quarter of a share. Then, if that stock’s price rises to $420, your share portion would be worth $105.

The upside of buying fractional shares is that you don’t have to limit yourself to riskier companies to get in at that lower price point, as is often the case with penny stocks. And you also don’t have to take a chance on penny stocks because their finances are difficult to examine.

This isn’t to say you shouldn’t buy any penny stocks for your portfolio. Again, the upside of penny stocks is that they don’t cost a lot. If there’s a specific company you’re interested in owning and you want to buy a few shares, go ahead and make a $25 investment, especially if it lends to more diversity for you.

But don’t focus solely on penny stocks if your goal is to diversify. There’s a safer way to do so that could prove very rewarding.

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