"A penny stock basically IS a call option with a strike price of zero that doesn't expire."
With this greater risk came greater potential reward, as well as a widely accepted standard that only experienced investors should be permitted to buy and sell options. Anyone with $500 cash in Canada can open a stock trading account and buy penny stocks, which trade, to a remarkable degree, just like options, on the TSX Venture Exchange. However, access to the options market is limited to those with margin accounts, for which access to derivatives markets has been explicitly requested -- something that is granted only to those with a high net worth and demonstrated experience trading securities.
Modern options markets, such as the Chicago Board Options Exchange, only really began to function in the early 1970s. Prior to this, at the beginning of the 20th century when the Vancouver Stock Exchange was founded, investors certainly understood what options were, and customized contracts traded hands between individuals. However, the idea of a formal options exchange, trading standardized contracts, like we see today, if conceptualized, had not been put into effect.
Out-of-the-money call options experience a decay in value that, all other things being equal, increases at an exponential rate as the date of expiration approaches. Experienced option investors understand that when they buy an out-of-the-money option contract there is a strong chance the value is going to zero.
The similarity between the way the market values options and penny stocks is plain to see. The main point being that both usually lose most of their value, which can be seen in the chart of an Apple Inc. (NASDAQ: AAPL) June 120 call option with Big Charts, and a chart demonstrating option time decay by Discover Options.
The 10-year chart of Mountain Boy Minerals Ltd. (TSXV: MTB) shares bears a striking resemblance to that of out-of-the money call options.
Investors in options understand that, if they are wrong, their investment is going to zero. It is unclear whether all penny stock investors enjoy this level of disclosure.
Given that there are hundreds, if not thousands, of companies on the TSX Venture exchange with charts that resemble charts of options, the question begs to be asked: If the TSX Venture Exchange was renamed an options exchange would investors be afforded a higher level of "full, true and plain disclosure of all material facts relating to the securities issued or proposed to be distributed," as reported by the Ontario Securities Commission guidelines for prospectus offerings, the legal gold standard with regard to the sale of securities to retail, mom and pop investors?
Are many of the no-sales, no-earnings penny stocks trading on the TSX Venture Exchange actually options in disguise?
What does all of this mean for the average Canadian?
First, unfortunately, renaming the TSX Venture Exchange to an options exchange would not create a marketplace free of pitfalls for investors. However, it would shore-up many. An elderly couple could no longer be pitched an investment in shares in a fraudulent company with a Peruvian claim; and unless the elderly couple specifically asked for access, they would not have access to options issued by such a firm.
Second, creating a marketplace with a higher level of "full, true and plain disclosure" removes a unknown, but seemingly vast, amount of motive from Canadian society for citizens to commit nefarious acts, including murder, as explained by Adrian du Plessis in the YouTube videos above. Selling fraudulent stock requires deception and in more than one instance has involved organized crime.
By insisting that companies with no revenues, no earnings, or other flaws sell only options, and not stocks, stock market regulators would be putting up a clear warning flag for the average Canadian that says, "Hey, this investment is probably going to zero," while still allowing what seemingly few legitimate junior companies there are to have access to capital.
An examination of the Toronto Stock Exchange and TSX Venture indicates a number of smaller companies with revenues and profits trading on the junior exchange, while, perhaps puzzlingly, a number with no revenues and no profits trading on the senior exchange.
A seeming common-sense idea might be to only allow shares of companies with trailing 12 month revenues of some amount (perhaps $500,000) to trade on the Toronto Stock Exchange, and those with less to be classified as options, and listed on the TSX Venture Exchange. Currently, companies must have net assets of $7.5 million and pre-tax earnings of $200,000 to be eligible to list on the Toronto Stock Exchange. Alternatively, other variations of this formula worth consideration might include earnings minimums.
In addition to removing a seemingly huge creator of motive for nefarious acts from Canadian society, conceivably, creating this new perpetual options playing field, with a higher level of disclosure for investors, could allow a greater number of small companies to raise capital by participating in securities offerings, and an increase in trading activity.
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