The Risks of Penny Stocks on the AltX: Gambling or Investing?

It is a story I hear constantly at dinner parties in Johannesburg. A friend pulls out their phone, eyes wide with excitement, and shows me a share trading on the JSE for 8 cents.

“Johan,” they say, “If I put R10,000 into this and it just goes to R1, I’ll be a millionaire!”

The logic seems seductive in its simplicity. We look at a share like Naspers trading at thousands of Rands, and it feels expensive. We look at a share trading at 10 cents, and it feels “cheap.” It feels like a bargain bin where the next Amazon is hiding, waiting to be discovered by a smart investor.

This is the siren song of Penny Stocks.

In South Africa, these tiny companies usually live on the AltX (Alternative Exchange), the JSE’s junior board. While the AltX has birthed incredible success stories that graduated to the main board (like Capitec or Curro), it is also a graveyard of failed dreams, suspended listings, and capital destruction.

As an analyst, it is my job to be the designated driver at this party. I am here to tell you that “cheap” does not mean “value.” In fact, shares trading for cents are often the most expensive mistakes you will ever make.

In this deep dive, we will expose The Risks of Penny Stocks on the AltX. We will explain the mathematical traps, the liquidity nightmares, and why buying these shares is often closer to visiting a casino than building a portfolio.

To understand where these high-risk assets fit (or don’t fit) into a serious wealth strategy, I strongly recommend you first read our foundational pillar: The Ultimate Guide to Investing in South Africa.

Understanding the Playground: What is the AltX?

To understand the risks, you must understand the venue. The JSE is split into two main boards:

1. The Main Board: This is where the giants live. Standard Bank, MTN, Shoprite. These companies have massive revenue, strict reporting requirements, and are tracked by hundreds of analysts globally.
2. The AltX (Alternative Exchange): Launched in 2003, this is the “nursery school” for smaller companies. It was designed to help startups and family-owned businesses raise capital without the onerous and expensive listing requirements of the Main Board.

The AltX is necessary for a healthy economy. It gives entrepreneurs a chance. However, because the listing requirements are less strict, the quality of companies varies wildly. You will find future champions mixed in with companies that are barely keeping the lights on.

When you trade on the AltX, you are stepping out of the well-lit shopping mall of the Main Board and into a bustling, chaotic street market. There are gems, but pickpockets abound.

The Mathematical Fallacy of “Cheap”

The biggest trap when evaluating The Risks of Penny Stocks is confusing Price with Value.

The Scenario:

• Company A (Blue Chip): Share price R500.
• Company B (Penny Stock): Share price 10 cents.

The amateur investor thinks Company B is “cheaper” and therefore has more room to grow. This is wrong.

A share price is just a slice of the pizza.

• If Company A is a massive pizza worth R1 billion cut into 2 million slices, each slice is R500.
• If Company B is a tiny biscuit worth R10,000 cut into 100,000 crumbs, each crumb is 10 cents.

Just because the crumb costs less doesn’t mean the biscuit is undervalued. In fact, many penny stocks trade at massive “Price to Earnings” (P/E) ratios, meaning you are paying a premium for a business that might be losing money.

The dream of “10 cents to R1” requires the company to grow its value by 1,000%. Ask yourself: Is it easier for a struggling mining junior to grow 1,000%, or for a stable bank to grow 10%? The 1,000% growth is a lottery ticket, not an investment projection.

The Four Horsemen of Risk on the AltX

When you buy a Top 40 stock, your biggest risk is the market cycle. When you buy a penny stock, you face four structural risks that can wipe you out completely, regardless of what the economy does.

1. The Liquidity Trap (Hotel California)

This is the single greatest danger of The Risks of Penny Stocks. Liquidity refers to how easily you can buy or sell a share without moving the price.

• Main Board: If you want to sell R50,000 of FirstRand, you can do it in a split second. Millions of shares trade daily.
• AltX: Many penny stocks have days (or weeks) where zero shares trade.

The Nightmare Scenario: You buy a penny stock at 20 cents. Bad news comes out. You panic and try to sell. But there are no buyers. You stare at your screen. The “Last Price” says 20 cents, so you think your money is safe. But you cannot convert that share into cash. You are trapped. You might have to lower your offer to 15c, then 10c, just to find someone willing to take them off your hands.

2. The Bid-Offer Spread (The Instant Loss)

The “Spread” is the difference between what buyers are willing to pay (Bid) and what sellers want (Offer).

• Liquid Stock Spread: You might buy at R100.00 and sell at R99.90. The cost is negligible.
• Penny Stock Spread:
  • Bid (Buyers): 8 cents
  • Offer (Sellers): 10 cents

If you buy at 10 cents, and immediately try to sell, you can only sell to the buyers at 8 cents. You have instantly lost 20% of your capital just by entering the trade. To break even, the stock needs to rise by 25%. This is a massive headwind to overcome before you make a cent of profit.

3. Volatility (The Heart Attack)

Because volumes are so low, a single trade can move the price drastically. If a grandmother decides to sell her R5,000 holding of a penny stock, that small sell order could clear out all the buyers and crash the price by 30% in one minute. Conversely, a small buy order can spike the price by 30%. This extreme volatility makes it impossible to use risk management tools like “Stop Losses.” By the time your stop loss triggers, the price has already crashed through the floor.

4. Information Black Holes

Standard Bank has dozens of analysts writing reports about it every month. If something changes, the news is instant. On the AltX, many companies have zero analyst coverage. You are relying entirely on the company’s own SENS announcements (Stock Exchange News Service).

• The Risk: You are flying blind. You often won’t know the company is in trouble until they ask for a trading suspension. By then, it is too late.

The Delisting Graveyard

History is littered with South African investors who ignored The Risks of Penny Stocks. Do you remember companies like 1Time Airlines? Or the various construction and junior mining stocks that promised the world? When a penny stock fails, it doesn’t usually just go down. It often gets suspended and then delisted.

When a stock is delisted, your shares don’t disappear, but they can no longer be traded on the JSE. You effectively hold a piece of paper that says you own part of a bankrupt company. The value is usually zero.

Unlike a blue-chip stock that might drop 20% and recover over 5 years, a delisted penny stock is a permanent destruction of capital. There is no coming back.

Is There Ever a Reason to Buy?

I realize I am painting a bleak picture. Is the AltX all bad? No. The AltX is where the “Ten-Baggers” (stocks that grow 10x) live.

Capitec Bank started small. Transaction Capital started small. The investors who identified them early made generational wealth. But—and this is the critical distinction—they didn’t buy them because they were cheap. They bought them because they analyzed the business model, the management team, and the earnings growth.

Speculation vs. Investment:

• Speculation: Buying a stock at 5 cents because you hope it goes to 10 cents.
• Investment: Buying a small company because you believe their new technology will disrupt the market, regardless of the share price.

If you are going to play in this arena, you must do the work. You cannot just look at a chart. You need to read the Annual Integrated Report. You need to Google the CEO. You need to check if they actually have cash in the bank.

Golden Rules for Survival

If, after reading all The Risks of Penny Stocks, you still want to allocate some “fun money” to the AltX, you must follow these rules of engagement.

Rule 1: Limit Orders Only

Never, ever use a “Market Order” on an illiquid stock. A Market Order tells the broker: “Buy it at any price.” If the order book is thin, you might end up paying 50% more than you intended. Always use a Limit Order. Tell the broker: “Buy 10,000 shares, but do not pay more than 15 cents.”

Rule 2: The 5% Cap

Never put more than 5% of your total portfolio into penny stocks. This is your “Casino Capital.” If it goes to zero, you can still retire. If you put your pension fund into a 4-cent share, you are being reckless.

Rule 3: Patience is Mandatory

Getting into a penny stock is hard. Getting out is harder. Be prepared to hold for years. These plays do not resolve themselves in days. You are waiting for the company to mature, or for a bigger company to buy them out.

Rule 4: Watch the Directors

This is my favourite tip. Look at “Director Dealings” on SENS. Are the CEO and CFO buying their own shares with their own money? If the people running the company are buying, it’s a good sign. If they are selling, run for the hills. They know more than you do.

The Price of a Lottery Ticket

The allure of the AltX is understandable. We all want the shortcut. We all want to turn R5,000 into R500,000. But financial markets are efficient mechanisms. Generally, things are cheap for a reason.

A stock trading at 10 cents is usually trading there because the market has collectively decided it has a high probability of failure. When you buy it, you are betting against the collective wisdom of the market. Sometimes you win, but usually, the house wins.

If you are a beginner, stay on the Main Board. Build your core wealth with the Top 40 and global ETFs. Leave The Risks of Penny Stocks to the professional speculators who can afford to lose their stake. Investing is about getting rich slowly. Gambling is about getting poor quickly. Know the difference.

Your Next Step: Log into your brokerage account. Check your portfolio for any companies with a share price under R1.00. Research them today. Are you holding them because they are good businesses, or just because they were cheap? If it’s the latter, consider recycling that capital into a diversified ETF.