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Al Hill : Mar 21, 2022
Last Updated: May 18, 2022
Alton Hill is a Cofounder at TradingSim. He has a passion to help people and found that one of his ways of doing so, is through the world of Day Trading. Alton’s skillset is in Product Development and Design Thinking which he uses to write and improve the overall experience for TradingSim.
Pink sheets might remind you of a piece of pink paper used for taking notes or memos.
In the financial markets, pink sheets carry a completely different meaning. The name denotes stocks that are trading in the over the counter markets. The OTC markets or pink sheet markets are well known for small cap stocks.
Some might even associate pink sheets with the term penny stocks. Penny stocks, as the name literally suggests are stocks that trade in pennies. Pink sheets is a term that is also used to denote penny stocks. These are small companies that trade in the OTC markets.
The name comes due to the fact that pink sheet stocks were originally printed on pink paper. Also, in earlier days, pink sheet stocks came with the suffix of .PK
Pink sheets bring an amount of notoriety to the name. Due to the lack of transparency pink sheet companies are often frowned upon. Investors can also manipulate the share price of pink sheet companies.
The Wolf of Wall street movie based on the experiences of Jordan Belfort show how easily penny stocks can be manipulated. Other famous movies such as Boiler Room also depict the risks of trading pink sheets.
But are all pink sheet companies bad? If so, why do we have them in the first place, and what are pink sheet stocks exactly?
In this article we will try to understand the concept of pink sheets and why some companies prefer a listing in pink sheets rather than the big stock exchanges.
Pink sheets LLC is a private company that is based in New York. The , is not the same as any other exchange. Pink sheets offer real time quotation service for the stocks that are listed in the OTCBB.
Pink sheets also quote for companies that are not listed on any other exchange. Typically, a company that lists on the pink sheet does not require any regulatory filing requirement. In some cases, companies that do not want to disclose financial information can also be listed as pink sheets.
Quite often people confuse between pink sheets and OTCBB. They are somewhat inter-related.
Pink sheets are quotations published on a daily basis. The quotes are compiled the National Quotation Bureau (NASD) and includes the bid and ask prices. The stocks trading on the pink sheets are also known as over the counter (OTC) stocks.
The bid and ask prices are compiled mostly from the market makers who trade the stocks.
Contrary to the companies that are quoted on a regular stock exchange such as the NASDAQ or the NYSE, pink sheet listed companies do not require much scrutiny. There are no minimum requirements to file with the Securities and Exchange Commission (SEC) to be listed in the OTC markets.
The OTC BB markets are owned by OTC Markets Group, with is registered with the SEC and FINRA.
The OTCBB is an electronic trading service provider offered by National Association of Securities Dealers (NASD). The NASD system offers the latest quotes with details such as last sales price and volume.
The OTCBB is similar to regular equities or other exchange traded securities.
The trading system was launched in 1990 with the Penny stock reform act also known as PSRA for short. It was signed into law by the then President, George H.W. Bush. The act was passed in order to curb the rising fraud in penny stocks during the 70’s and 80’s.
The transactions for the pink sheets on the contrary are handled by the National Quotation Bureau (NQB).
One of the biggest advantages for trading in the pink sheets for companies is that there are no requirements. The PSRA law impacted companies with a stock listing of less than $5.00 without any impact on issuer quality.
The pink sheets continue to undergo reforms. This whitepaper, “Will more sunlight fade the pink sheets” takes a very detailed look on the changes.
It will of course take a lot more time in order for pink sheet companies to shed their negative bias.
Pink sheet companies do not require filing their financial reports with the Securities Exchange Commission (SEC). Furthermore, there are no financial restrictions either such as filing quarterly reports.
The lack of these regulatory oversights allows companies to be listed on the Pink sheet with ease. In a way, it also lowers the transaction costs for companies that want to be listed on the pink sheets.
Trading in pink sheets is redistricted however. In other words, you as an individual trader or investor cannot trade directly.
Only registered brokers that are held to the standards of the Financial Industry Regulatory Authority (FINRA) are allowed access.
You can of course trade the pink sheets indirectly through these registered brokers.
Pink sheet trading takes place between 9.30am and 4.00pm EST.
The companies listed on the pink sheet follow the same business day convention (holidays) as NASDAQ or other big exchanges.
It is important to understand that pink sheet stocks are not very liquid. Therefore, they are subject to pump and dump schemes.
The chart below shows a random pick from the micro cap stocks.
Arca Biopharma for example is a research and development company in the pharmaceutical industry. As you can expect, raising cash in the main markets can be an expensive affair. As a result, a micro cap listing in the pink sheets is a better solution.
Not all stocks listed in pink sheets are bad. You can read more about Arca Biopharma here in order to understand more.
By now you must be wondering how a company gets listed on the OTCBB. Certainly, from what we read so far, there is no fanfare on OTC listing compared to a bigger exchange. Usually when a company goes public, floating its IPO, it receives news coverage.
This is not the case with OTCBB stock listing.
Securities listed on the over the counter bulletin board primarily does not trade on the major stock exchange. Technically, OTCBB companies are “not listed” on the board. Their share prices are merely quoted on the OTC boards.
Companies need to adhere to the listing standards for the over the counter markets. Of course, the listing requirements are minimal compared to a company that is listed on a major exchange.
Companies that issue the OTC securities as a result do not undergo the stringent regulatory and financial oversight. The main criterion for a company to list on the OTCBB is that the company should not be delinquent in filing to the SEC.
In other words, an OTCBB company is also required to file reports to the SEC. But this is not required on a quarterly basis. The paper work is also very less.
OTCBB companies or pink sheets are listed on OTCQX or OTCQB or a Pink company. The securities are subject to the broker-dealer quotes on the alternative trading system (ATS) venue. The ATS is registered with the SEC and operated by OTC Link LLC.
OTC Link LLC is also registered with FINRA and owned by OTC Markets Group.
Broker dealers can begin to quote the OTCBB prices after submitting Form 221 with FINRA and getting an approval. In some cases, a few companies can also start quoting their prices without any filing. This happens when a stock is being quoted on another market.
Currently, the financial information requirement is for pink sheet companies to file Form 211. The statements do not need to be subject to an audit according to FINRA. However, the statements filed must be in accordance with GAAP accounting practices.
For international companies, the local or home country accounting standards are to be followed.
There are no further additional disclosures required from the companies to be listed as pink sheets.
Companies need to have a minimum bid price of $0.25 with the company having at least 50 share holders. There are different levels within the pink sheet listing. Of course the higher the level, the more requirements there are.
For example, a company that wants to list on the PremierQX board must have at least 100 share holders with a bid price of a $1.00 at the very least. The financial disclosure requirements also increase depending on the level.
It should be evident by now about the inherent risks of trading pink sheets. The main factor is that companies do not need to meet any regulatory reporting standards. Although pink sheet companies need to file returns, they do not come under scrutiny.
Some companies can exploit this loophole as a result. In recent times, some of the pink sheet companies now have the famous Jolly Roger symbol. The skull and bones flag, famous for piracy informs investors of the potential risks.
A good example of how companies exploit the pink sheet listing requirements is well documented in this article from the Financial Times.
One might wonder why some companies want to be listed as Pink sheets. This is because the lesser regulatory requirements makes it easy. There are also genuine companies that want to raise capital. Most of these companies are micro-cap companies.
Companies find it easier to list on pink sheets due to less amount of paperwork and expenses in order to raise the money.
Now if you compare this to an IPO listing on a big stock exchange such as the NASDAQ or NYSE, companies have to pay lots of money. The fees include applications and scrutiny from the Securities Exchange Commission.
Companies also need to pay the underwriters who are issuing the shares, hold road shows and raise awareness.
Understandably, you can see that it can be an expensive affair.
As a result, smaller companies find the pink sheets listing to be a better option. This is also evident from the comments.
Pump and dump is a loose phrase common to the financial markets. It refers to a scheme were an investor or few investors pump up the stock price. As the price starts to rise, it draws in gullible investors. The reason that draws others could be greed or just plain selling.
Once there are enough investors who are participating as the price is rising, the main investors pull out their money. The sudden outflow of cash leaves the stock price vulnerable to a big drop. As a result, the new investors end up taking big losses.
Pump and dump schemes happen not because the company has ulterior motives. Penny stocks, due to the way they trade are vulnerable to these risks. The lack of liquidity is the main factor. Secondly as these stocks trade in pennies, just a little amount of cash can move price around.
The pump and dump scheme affects not just investors but the company that is the subject as well. For the most part, the media attention goes to the company itself rather than the investors responsible for it.
It is common for pink sheet companies to see share prices surge 100% or 1000% or even higher. This example of Cynk Technologies can show you the real risks. The stock price surged 36,000% before crashing.
As you can see, the pump and dump schemes are very prevalent and plays on investor’s greed.
If you are an average investor looking to invest for the longer term, then pink sheets are a no-go. The price vulnerability could potentially put your investing capital at risk.
Day traders might be wondering if the volatility from pink sheets makes it a good playground. The answer to this is unfortunately no!
The lack of liquidity means that you get the next best price, which is not always the price you ask for. As a result, even with using stop losses you won’t be able to protect yourself. Furthermore, short term trading methods such as technical analysis don’t hold any value either.
While pink sheets can be tempting, it is best to avoid these stocks.
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