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Microcap Stocks: A Double-edged Sword

Investing in microcap companies can be easy and attractive — their stocks are low-priced. But as a recent SEC posting notes, the risks in investing in microcaps include volatility and liquidity.

Another risk is that many microcaps do not file financial reports with the SEC, making it harder to find out about how a company is run, what it does, and how its finances are run. That difficulty, the SEC warns, can heighten the danger of falling victim to fraud when investing in microcaps. 

The SEC says false information about microcap companies and stock can be spread through paid promoters, who can generate unsolicited faxes, emails, online and mailed ads; internet fraud; email spam; phone banks; and questionable press releases. 

The posting features six red flags to watch for when considering investing in a microcap: 

  • SEC trading suspensions
  • email and fax spam
  • large assets but small revenues
  • peculiar information in financial statement footnotes
  • unusual auditing issues
  • insiders owning large amounts of stock

The SEC suggests that investors can help minimize the risk when investing in microcaps if they work with a broker that is registered with the SEC. It also suggests that investors find out whether the company’s securities are registered with the SEC or a state securities regulator, among several other prudent steps.