Tis the Season to Review Penny Stocks

Christmas and (insert your favorite holiday here) come but once a year; earnings season on the other hand, comes four times a year.  And while earnings season may be devoid of streamers, balloons and cake…the outcome can be just as festive for penny stock investors.

While blue chip giants are bemoaning the start of earnings season this week, those interested in penny stocks or small-cap stocks have reason to cheer…or at the very least, be extremely optimistic.

After nearly six years of strong performance, small-cap stocks headed into 2005 with many industry analysts saying the honeymoon was over.  Small-cap prices were too rich they said…the Johnny-come-lately lemmings were too many…and the bargains too few.  

Not surprisingly, penny stocks sailed through 2005, beating their larger counterparts by an equally large margin.  For the 12 months ended May 1, 2006, the Russell 2000 index of small-cap stocks returned 31.5%, compared with 14.1% for the Standard & Poor’s 500 index of large-company stocks.

The longer view is even more impressive.  Since March 2000 (the official start of this rally) the Russell 2000 index has posted an average annual return of 7.3%, vs. -0.6% for the S&P 500.

Clearly the penny stock soothsayers are i) not worth listening to ii) not invited on my honeymoon.

Now, just because penny stocks have been performing well does not mean that earnings season is a foregone conclusion.  In addition, you cannot compare the results of your favorite penny stock pick with those of the blue chip juggernauts.

For example, earlier this week one of the market’s bellwether stocks missed its revenue forecast for the quarter.  Analysts pounced noting that the company’s share price “tumbled” 4% on the news.  Another company’s missed forecast sent its stock “plummeting” 4.7%.

Penny stocks don’t tumble or plummet 4%.  In the world of penny stocks, a daily drop or gain of 5% – 8% is commonplace.  Now, should the penny stock on your radar screen climb 10%, 20%, or 50% on strong earnings…that could be described as significant.

Granted, the earnings results from large-cap stocks are a litmus test to how well our economy is doing…and is expected to do.  Fortunately, penny stocks don’t follow the same rules as their leviathan counterparts.  Penny stocks can defy logic and perform well in bad times…or perform poorly when times are good.  

The point is, you can’t read your penny stock company’s fiscal results through the same glasses as you would a triple digit goliath.  Penny stocks march to their own tune and experience daily climbs and drops that would churn the stomach of most Wall Street analysts.

Which is fine…most Wall Street fat cats are happy with a 7% return on their safe, boring investment.  Penny stock investors are not.

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