Why penny stocks tank?
Penny stocks tank because of convertible debt, better known as dilution, not market-makers and not shareholders. The dilution can be shares from a third-party lender or "accredited investor" or company insiders. On a thinly traded stock, market makers will bring the ask down or sell into the bid until the stock meets demand. Compare it to a shirt for sell in a department store, after a few weeks of the shirt not selling, the store will likely lower the price by 20%, after a month 50% and so forth. Usually if a product is not doing well at all, they will no longer sell the item. The "sale" is not because they are doing you a favor, it's usually because the demand was not met for the supply. Penny stocks are similar, if no one wants the stock, it tanks
Convertible debt financing is when a company offers shares, warrants, bonds in exchange for cash. These shares are usually available to sell immediately after the transaction closes. The shares are usually given for an extreme discount relative to the current trading price. If the stock is deep in debt and management financed their company for hundreds of thousands to millions, expect a severe decrease in price per share in the months to years following. The only way the company price per share can rise with continuance of debt financing is if they have a golden business plan and operating revenues exceed operating expense. Very few penny stocks have mastered this, and that's why most tank.
If the market anticipates that the business can overtake its debt then they will continue to buy and support the company. Mostly any public-traded company can secure a loan, because lenders know that they can always liquidate their position through shareholders hard earned money, even if all goes wrong- then the company files bankrupt. Always read a company sec-filing 10q to find out their accumulated deficit, amount of notes due, shares sold and record the dates so that you know when all third-parties are due for their return. As an investor or trader, it is important to know where your money is going and if you will ever get it back once you give it to a company. If a company is in debt, once revenue is generated, it's usually accounted for and common shareholders are not the first to realize gains on their investment.
For example, you invest $100 with Joe's lemonade stand. Joe goes and take out a $5,000 loan. The lemonade stand takes $200 /mo to run and now makes $400 a month, but Joe is paying off the $5,000 loan so a percentage of profits must go to the... Login To Read More