Hedge funds aren’t the type of investors that regularly buy shares of penny stocks. However, on some occasions, they can identify opportunities in the segment of cheap stocks by looking a bit further than the crowd and noticing something that others might not see. However, most companies whose stocks trade in the penny stock space, are very small and investing in them is highly risky, which is why even if hedge funds buy a stake in one of these companies, they are hedging their risks. Also, due to the relatively small sizes of these positions, they can afford to lose some money on these bets, which may not be the case for retail investors. Nonetheless, we have identified five penny stocks with a lot of optimism among the elite hedge funds that we track. However, all of these stocks posted huge losses during the third quarter and we should warn you that we don’t know if these investors maintained their positions during that time, since the current round of 13F filings is still in progress. However, judging by the long-term focus of many of them, there is a chance that a majority of the funds that acquired shares will keep them until the stocks rebound.
A safer way to emulate hedge fund activity is to follow them into their small-cap stocks. Even though these investors prefer large and mega-cap companies, they still allocate significant amounts of capital into the small-cap space. Our research determined that imitating hedge funds’ most popular picks among small-cap stocks can help generate much better returns than simply following them into their top picks. The strategy that we developed based on the research involves imitating the 15 most popular small-cap stocks among hedge funds and it has returned 102% since August 2012, beating the market by some 53 percentage points (see more details here).
Let’s take a look at the penny stocks that made our list. We will start with two energy stocks. The whole sector has been significantly affected by the slump in crude prices, sending the prices of many energy stocks below $1. One of the oil & gas companies that hedge funds seem to like, despite an 80% slide year-to-date is Penn Virginia Corporation (NYSE:PVA). Investors were most likely bullish on the company because they were betting on it being taken over, with rumors that BP might be interested in it arising back in June (see details). The stock is in risky territory, trading below $1.00 for a long time, which could lead to its de-listing from the NYSE if the situation does not improve. Penn Virginia Corporation (NYSE:PVA)’s shares gained 39% in the last month, which pushed it above its 52-week low of $0.34, though they still have a lot of room to cover until they reach the 52-week highs of over $9.00. Analysts currently have a consensus price target of $5.90, which also indicates huge upside potential (although some of the price targets in the consensus may be old). However, with crude prices still at very low levels, the company might need a miracle and soon, if it wants to stay afloat. Meanwhile, George Soros‘ Soros Fund Management held 6.0 million shares of Penn Virginia Corporation (NYSE:PVA) at the end of June, followed by billionaire quant Israel Englander’s Millennium Management with ownership of 3.53 million shares.