ASX penny stocks can be some of the most interesting ASX shares. They are often some of the smallest businesses around when it comes to market capitalisation. Are they a good way to make money?
I've recently covered whether there are penny stocks on the ASX. Here's a section from that article explaining what they are:
"The definition of a penny stock in the US is any listed company with a share price under US$5. But in Australia, most people use the term to describe ASX businesses with share prices under $1. The term originated from back when low share prices were measured in pennies. Obviously, inflation and changes in currencies have altered the literal meaning of the term since then."
In Australia, the term penny stock is more commonly used to describe an ASX share with a very small market capitalisation, rather than simply a low share price.
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Can investors make money with ASX penny stocks?
Any ASX share can, in theory, go up or down in value.
As a whole, the average return per annum for the S&P/ASX 200 Index (ASX: XJO) has been 10% over the long term. No one can know what the return will be this year or next year, but history has shown that the overall share market has been a good wealth creator.
But, I think the potential range of outcomes for ASX penny stocks is much wider.
Remember, a business that grows from $100 million in size to $200 million produces the same growth in percentage terms as a business that goes from $10 billion to $20 billion.
But, it's logical to think that a smaller business has more room to grow than a large business.
However, just because a small business can grow doesn't mean that it will be successful. Challenging large incumbents is a tricky task. Rolling out an entirely new product or service can also take some time to get traction.
A number of ASX shares that are now globally significant were once much smaller – they were ASX penny stocks.
I'm thinking about names like Pro Medicus Limited (ASX: PME), Altium Limited (ASX: ALU), Pilbara Minerals Ltd (ASX: PLS) and Northern Star Resources Ltd (ASX: NST).
Over the past decade:
The Altium share price is up more than 3,900%.
The Pro Medicus share price is up around 12,900%.
The Northern Star Resources share price has risen by over 600%.
The Pilbara Minerals share price has gone up by around 17,800%.
Past performance is definitely not an indicator of future performance for the above ASX shares.
It's also very hard to predict which ASX penny stocks are going to go on and achieve great results from here.
One buy-rated idea
I'll save my own ideas for another article. But, I will share one of the names that a broker believes has big potential.
One name is Step One Clothing Limited (ASX: STP). This business is a direct-to-consumer online retailer for 'innerwear', meaning underwear. Its products are marketed as "high-quality, organically grown and certified, sustainable and ethically manufactured innerwear that suits a broad range of body types."
Step One has established a position in Australia, the UK and US. The company is currently prioritising profitability over growth. It generated $1.8 million of earnings before interest, tax, depreciation and amortisation (EBITDA) in the first quarter of FY23, which equated to an EBITDA margin of 14%.
It's rated as a buy by the broker Morgans, with a price target of $0.50. The Step One share price is currently $0.24. That implies a possible doubling over the next year. It's valued at 7 times FY24's estimated earnings, according to Morgans.
