A penny for my thoughts. I would normally steer clear of writing about penny stocks - the cheapest and some of the most volatile assets in the stock market. Typically, trading over-the-counter (OTC) with limited financial disclosures - thus, minimal quant grades and not as heavily regulated, penny stocks can be quite risky. But our readers have asked, and you shall receive!
What are penny stocks?
Penny stocks are some of the cheapest investments, and they can diversify and benefit portfolios but could be better long-term investments. Typically, penny stocks can generate the ultimate short-term gains, with many proving bad long-term investments. Historically, penny stocks refer to companies whose share price trades under $1 with market capitalizations less than $300M, also known as micro-caps.
Over the years, their definition has evolved from under $1 to under $5. While I generally do not recommend stocks under $10, the key to smart investing is screening for stocks that possess strong fundamentals and, in this case, coupled with low prices.
Penny stocks fall below the umbrella of small caps. They can be subject to unpredictable price movements, making them more volatile than stocks that trade at higher prices with higher market capitalizations. With the lack of disclosure requirements and regulatory oversight, lower-priced stocks can be more prone to scams. Additionally, geopolitical and regulatory constraints from an industry standard may inhibit growth or divert attention from growth to operationally adjust to regulatory changes. The aforementioned may result in several quarters of lackluster earnings results. Where this may penalize a company, some examples of penny stocks that evolved in recent years include Petróleo Brasileiro S.A. - Petrobras (PBR), Freeport-McMoRan Inc. (FCX), and well-known meme stock GameStop Corp. (GME). While these names do not currently hold Strong Buy quant ratings, they surged, offering many investors overnight success.
Cheap Stocks
Penny stocks can offer excellent return potential. Fluctuating through high growth periods and typically having higher leverage, penny stocks may sell off sharply when rising interest rates are threatened. Additionally, they tend to sell off more from a day-to-day trading perspective than stocks with bigger market caps or when there's an economic slowdown, recession, or contraction. When fear moves the markets and creates a pullback, potential buying opportunities may present. But buyer beware! Lower-priced stocks can be more volatile. Where value is not determined by price, and sometimes investors perceive a low price as a discounted value with potential upside, sometimes cheap stocks are cheap because they're garbage and priced accordingly!
"Look under the hood" of stock selections to ensure they have strong management and fundamentals, no operational deficiencies, or an inability to effectively build a moat around their business to achieve consistent earnings growth. While my three picks have experienced price swings and geopolitical and macroeconomic headwinds, they are fundamentally sound and trading near 52-week lows, offering buy-the-dip opportunities.
3 Penny Stocks to Invest In
Cheap stocks with strong profitability, solid return on equities, and earnings growth are the company profiles that can be great for portfolios. Why?
They tend to deliver long-term value.
Diversification.
Investors can participate in the potential upside.
Although one of my three picks below, LATAM Airlines Group S.A., has a D+ Profitability grade and is exiting bankruptcy this month, a look at most of its underlying profitability metrics is strong. Where I normally prefer to focus on top small-cap stocks, over the last year, many of these picks based on the quant rating system have paid out handsomely. The key is finding companies with attractive collective financial traits on valuation, growth, EPS revisions, profitability, and momentum. These essential qualities are in my three penny stocks to buy now.
1. LATAM Airlines Group S.A. (OTCPK:LTMAY)
Market Capitalization: $4.72B.
Share Price (as of 11/2/23): $0.47.
Quant Rating: Strong Buy.
Quant Sector Ranking (as of 11/2/23): 18 out of 655.
Quant Industry Ranking (as of 11/2/23): 2 out of 27.
Voluntarily filing for U.S. Chapter Bankruptcy amid the COVID-19 pandemic in May of 2020, Chilean-headquartered LATAM Airlines Group sent notices that it will officially exit Chapter 11 proceedings on November 3, 2023. After two and a half years, the airline is focused on reorganization, a competitive cost structure, and sufficient liquidity for the future. The Reorganization Plan is fully backed by supporting shareholders and major players like Delta Air Lines, Inc. (DAL), Qatar Airways, Cueto Group, and creditors Evercore Group and other holders of local bonds.
LATAM Airlines, along with its subsidiaries, is a provider of passenger and air cargo transport, primarily in Latin American countries. Recovering in the second quarter of 2023 to 93% of pre-pandemic levels, LATAM's year-over-year revenues increased +20%, driven by increased passenger and cargo capacity, +28.4% and 20.7%, respectively. Over the last year, the stock is +29% and showcases strong growth potential.
LTMAY Stock Growth & Profitability
Following a strong Q2, LATAM reported a record Q3 total revenue of $3.1B, an increase of 18.1% compared to Q3 2022. Passenger capacity increased by 15.2% compared to 2022, operating margin was 13.4%, adjusted operating income was $409M, and LATAM reported net income attributable to company owners of $232M in Q3. According to LATAM's results:
"S&P upgraded LATAM's corporate rating to 'B' with a positive outlook, while Moody's upgraded its rating to B1 with a stable outlook. Additionally, FTSE (Financial Times Stock Exchange) announced that LATAM has been included in its Global Equity Index as of September 15, 2023."
Although its profitability grade is a D+, the majority of LATAM's underlying profitability metrics are strong, including a Net Income Margin that's a 345% difference to the sector, $1.2B Cash from Operations (TTM), an 11.17% Return on Capital (TTM)vs. the sector's 6.87%, and quarter-over-quarter liquidity improvements.
LATAM has strong year-over-year Revenue and EBITDA Growth figures compared to the sector.
"We are very proud of the financial performance that the group has shown during this third quarter and throughout the year, which has been progressively improving, thanks to the systematic work toward a long-term vision. At the end of this quarter, the group reports a record result in revenues following the consistent recovery in passenger air transportation. In turn, the capital structure of LATAM Airlines Group S.A. continues to be incomparable in the region in terms of liquidity, in terms of leverage, which, added to the unmatched connectivity that LATM group offers at a regional level, demonstrates that it is on the right path," said Ramiro Alfonsin, CFO of LATAM.
In addition to its solid outlook, analysts are revising Fiscal Year estimates up, the stock has strong momentum and, most importantly for this article, trades at a discount. Despite the stock being up ~30% over the last six months and over the last year, it's trading near its 52-week low of $0.25/share - a great buy-the-dip opportunity. With an overall A- Valuation Grade supported by a forward P/E of 0.39x compared to the sector median of 19.51x, LATAM trades at a 98% difference to the sector. Additionally, its EV/EBITDA and Price/Sales figures come at more than a 50% discount. Consider flying high with LATAM Airlines, a company restructuring with improving results.
2. Clover Health Investments, Corp. (CLOV)
Market Capitalization: $441.6M.
Share Price (as of 11/2/23): $1.01.
Quant Rating: Strong Buy.
Quant Sector Ranking (as of 11/2/23): 44 out of 1117.
Quant Industry Ranking (as of 11/2/23): 3 out of 9.
Offering Medicare advantage plans throughout the U.S., Clover Health Investment, Corp. is a next-generation offering that brings affordable, easy-to-understand top managed health care plans to seniors. Powered by artificial intelligence (AI), Clover Assistant is Clover's innovative data and technology platform that offers a healthcare ecosystem designed to aggregate patient data to make health history, personalized care, and cost transparent.
Despite the Healthcare Sector (XLV) being among the worst-performing sectors over the last year, underperforming the market in Q2, the industry is well-positioned for steady long-term gains. Healthcare is one of the largest industries by market cap, as Morningstar Equity Research highlights:
"In the healthcare plan industry, we believe the short-term headwinds of potential pharmacy benefit reforms and falling support in Medicaid and Medicare Advantage are creating undervalued opportunities as the industry can offset these challenges over the long run."
That said, annual healthcare expenditures in the U.S. are expected to reach $7.2T by 2031. Clover Health Investments offers a unique insurance model that combines financial technology to deliver data-driven, personalized insights at the point of care while partnering with physicians. Although Clover has faced some headwinds, including the settlement of a 2021 SPAC transaction, the company continues to improve quarter-by-quarter, with Q3 results expected to be released on November 6th.
CLOV Stock Growth & Profitability
Clover has had consecutive earnings beats, substantially improving performance in Q2 with a strong Medical Cost Ratio (MCR) driving revenue growth and improved guidance with MCR of 83% - 85% and insurance revenue of $1.2B to $1.23B. On its way to profitability, Clover delivered its first positive adjusted EBITDA quarter as a public company and its best-ever MCR, +77%. EPS of -$0.05 beat by $0.08, and revenue of $513.63M beat by $22.81M.
Clover Health Crushes earnings, and analysts revise Estimates up
With a focus on strong performance and strategizing core markets, Clover's executive team is focused on growth, and analysts are revising estimates up. Increased enrollment of end-of-life and low-income members - a population with generally higher disease, Clover CEO Andrew Toy highlights:
"We believe that our ability to comprehensively support this population while still delivering sustainable economics demonstrates the power of our technology-centric model to support health equity. CMS has recognized the importance of plans like ours that have prioritized health equity and have made adjustments to the star rating system for future years. While this won't affect the current stars cycle, we support the changes CMS is making and look forward to what we believe will be favorable tailwinds down the road."
CLOV Stock Valuation & Momentum
While still a small company, Clover Health is focused on prioritizing profitability, improving margins, and operational efficiencies. Despite the stock getting crushed over the last year, -31%, it had a big surge yesterday, +12%, and has solid momentum, outperforming its sector median peers over the six- and nine-month periods.
With an A+ overall valuation grade and trading below is mid-52-week range, CLOV's EV/Sales are more than a 97% difference to the sector, but its forward Price/Sales is 0.22x versus the sector's 3.34x and its Price/Book (TTM) is more than a 20% difference. With its focus on early diagnosis and disease treatment, along with technology and physician access, CLOV is a penny stock worth considering for a portfolio.
3. SurgePays, Inc. (SURG)
Market Capitalization: $63.6M.
Share Price (as of 11/2/23): $4.55.
Quant Rating: Strong Buy.
Quant Sector Ranking (as of 11/2/23): 23 out of 245.
Quant Industry Ranking (as of 11/2/23): 7 out of 20.
Wireless technology and communications company SurgePays, Inc. is a fintech focused on offering a suite of financial and prepaid products, primarily for underbanked and underserved populations. Benefitting from the Affordable Connectivity Program, SURG is looking to connect with the more than 20 million households enrolled in the program as of August 14th, as well as convenience stores and other points of distribution throughout underserved communities. With the goal of building the largest direct distribution networks of underbanked products and services, SurgePays recorded its first quarter in 2022 with a positive GAAP net income of $3M. Since Q4 of 2022, its profitability has continued to increase, with consecutive earnings beats, and although Q2 2023 revenue of $35.89M missed estimates, EPS of $0.40 beat by $0.25.
With strong partnerships that include big-name convenience stores, LeadEx Solutions, a direct-to-consumer marketing platform focused on lead generation, and ClearLine Mobile, helping launch customer-facing LCD tablet interfaces, this stock is ready to surge! Like Clover Health, the stock over the last year has been down, posing a great buy-the-dip opportunity for investors wanting an up-and-coming penny stock at a discount, with upward Wall Street analysts revisions. SurgePays' forward year-over-year revenue growth is +52% compared to the sector's 3.58%, its ROC is nearly a 4,000% difference to the sector, with an A+ Asset Turnover Ratio (TTM) of 4.12x compared to the sector's 0.48x. In addition to solid momentum, whose price performance outperformed the sector median over the last six months, this penny stock comes at a tremendous discount.
SURG Stock Valuation
SURG trades at an extreme discount, highlighted by an A- Valuation Grade. SURG's valuation is supported by a forward P/E ratio of 3.44x compared to the sector's 13.74x. Additionally, forward EV/Sales and EV/EBIT have more than a 75% difference to the sector. When you factor in SurgePays growth projections that include new partnerships, operations in 13,000 stores, subscriber growth, and closing Q2 2023 with $5.2M in cash and +$10M in accounts receivables, as fellow Seeking Alpha analyst Alessandro Calvo writes in "Riding The Surge: SurgePays Could Be The Next Big Asymmetric Bet":
"Given that SurgePays has an extremely low market capitalization, if the company indeed doubled its customers over the course of the year - maintaining its current profitability - the stock could skyrocket. We're talking about a company that would easily arrive with a net profit of $30+ million by the end of FY 2024, against a current market capitalization of less than $70 million."
If you're looking for cheap stocks with strong fundamentals, consider my three picks.
Stocks Under $5 can offer reward potential
From a discount perspective, lower-priced stocks may come at a great price point, but they can also be overvalued. Although cheap stocks can be riskier investments and volatile, they have the potential for tremendous returns as they can experience deep troughs and high growth periods. Each of my three picks was selected by identifying low-cost stocks with strong fundamentals using our Quant Screening System.
The stocks featured here, LTMAY, CLOV, and SURG, may help to diversify your portfolio, can be purchased at a low cost, and have the potential for tremendous upside success. Alternatively, if you are concerned about the risks of penny stocks, we have dozens of Top Stocks Under $10 for you to choose from, or, if you prefer a list of our top monthly suggestions from among the best of the best strong buy quant stocks, consider Alpha Picks.
Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.
Steven Cress, Quant Team
Steven Cress is the Head of Quantitative Strategies and Market Data at Seeking Alpha. Steve is also the creator of the platform’s quantitative stock rating system and many of the analytical tools on Seeking Alpha. His contributions form the cornerstone of the Seeking Alpha Quant Rating system, designed to interpret data for investors and offer insights on investment directions, thereby saving valuable time for users. He is also the Founder and Co-Manager of Alpha Picks, a systematic stock recommendation tool designed to help long-term investors create a best-in-class portfolio.
Steve is passionate and dedicated to removing emotional biases from investment decisions. Utilizing a data-driven approach, he leverages sophisticated algorithms and technologies to simplify complex, laborious investment research, creating an easy-to-follow, daily updated grading system for stock trading recommendations. His presentations are ideal for a variety of settings, including podcasts, webinars, financial forums, corporate meetings, investment leadership gatherings, and larger public events.
Steve was previously the Founder and CEO of CressCap Investment Research until its acquisition by Seeking Alpha in 2018 for its unparalleled quant analysis and market data capabilities. Prior to that, he had also founded the quant hedge fund Cress Capital Management, after spending most of his career running a proprietary trading desk at Morgan Stanley and leading international business development at Northern Trust.
With over 30 years of experience in equity research, quantitative strategies, and portfolio management, Steve is well-positioned to speak on a wide range of investment topics.
Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given that any particular security, portfolio, transaction or investment strategy is suitable for any specific person. The author is not advising you personally concerning the nature, potential, value or suitability of any particular security or other matter. You alone are solely responsible for determining whether any investment, security or strategy, or any product or service, is appropriate or suitable for you based on your investment objectives and personal and financial situation. Steven Cress is the Head of Quantitative Strategy at Seeking Alpha. Any views or opinions expressed herein may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank.
