Everyone’s Heard Of Penny Stocks But Do You Know How To Trade Penny Stocks Like A Pro?
First thing’s first, the SEC defines penny stocks as equities that trade below $5. Because these are cheap stocks, investors with small and large portfolios can get in on the action in many ways. After reading this article, assess if you think penny stocks could be a potential investment option for your own strategy. If so, check out our article, “How To Trade Penny Stocks: 9 Key Strategies To Learn Now” to begin your penny stock journey.
Penny Stocks & Volatility
One of the fundamental attributes that people mention when discussing penny stocks is volatility. This is extremely important to evaluate when you are looking into different penny stocks to buy. Volatility is what makes trading penny stocks special and keeps investors inclined to focus on smaller companies. It’s rare for a blue-chip company’s stock price to rise or fall by 20% in the blink of an eye. But when you talk about certain penny stocks, that fluctuation can be the norm.
But what makes penny stocks some of the most volatile equities on the marketplace? First of all, these stocks tend to have underlying companies that are just starting. They might also lack proper fundamentals like profitability which makes them extremely speculative.
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Think of penny stocks in comparison to blue chips like a small child experiencing a sugar rush. A couple pieces of candy can make a kid very hyper. In a similar fashion, a couple of big penny stock news stories can trigger micro-cap stocks to take flight in a short span of time simply based on speculation.
Penny Stocks & Risk
As we mentioned before, penny stocks are extremely volatile and speculative due to a “newness” factor. This means that these stocks carry a lot more risk. However, with more risk comes more expected returns from investors like any other type of investment. There are a few other reasons why any list of penny stocks can be risky. I don’t know if you have ever seen the movies Wolf of Wall Street or The Boiler Room but they depict how bad actors use penny stocks and take advantage of potential investors.
Another significant problem when looking into penny stocks is their lack of information. Most penny stocks trade on the Over the Counter markets (or OTC). These companies have a lot fewer regulations than stocks trading on the NYSE or Nasdaq. Such regulations include having proper financial statements which are vital for making an informed decision. This just adds an extra amount of risk to these equities.
All of this risk and volatility might be scary when you are not really mentioning positive information. I talked about a casual 20% gain within a day, this is typical in the world of penny stocks. Every so often, you will see a penny stock shoot up 100% or more and these are the stocks you hope to capitalize on. All I am saying is that if you can find the right companies, the potential reward could be well worth the risk.
Penny Stocks & Acquisition Potential
We have mentioned that penny stocks tend to be small and growth-stage companies. This also gives them a very distinct advantage over other companies. The potential of a take-over or buy out via an acquisition becomes greater.
Penny stock companies might be developing groundbreaking technology that grabs the attention of a bigger, more established company. If news of a potential takeover breaks, shareholders love that information and bring an influx of buying pressure. This helps drive penny stock prices up which is good for those who got in early.
Penny Stocks 101: Industry and Sector Analysis
This section applies to stocks in general. Different industries and sectors offer different benefits, investment factors, and standards. It is important to evaluate penny stocks in every sector and see how they react to market, industry, and company news. Remember, news catalysts can be your best friend when looking to buy penny stocks.
For instance, take the biotechnology sector. Whenever you get the chance, take a look at some biotech penny stocks and how they’ve reacted when positive news comes out. They tend to shoot upwards. I mention biotechnology because this sector produces a lot of news from raising capital, new developments in clinical trials, FDA approvals, financial reports, etc. As you can see, a biotech stock with a strong goal and pipeline portfolio can be extremely profitable for investors.
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It’s also an interesting space because it’s one of the few that sees companies pre-announcing certain corporate events & presentations. We’ve discussed upcoming potential catalysts to keep in mind before certain weeks begin. These can trigger speculative buying right up to the day of news. The old adage of “buy the rumor, sell the news,” is very real when it comes to certain sectors like this.
How To Trade Penny Stocks Like A Pro
I think that some new investors struggle because they fail to take the time to learn. Making money is never a guarantee, but practicing can definitely enhance your chances. A lot of traders don’t develop trading strategies before they invest their money; this is foolish. There are so many trading platforms like ThinkOrSwim and TradeStation that offer paper trading so that you can actually get a feel for the market.
Remember, penny stocks move very quickly so if a trade turns sour you need to have a game plan to handle a drop. For instance, you could say before you invest your money that you are only willing to lose 5% so you set a stop-loss at that price point. This will help you reduce your losses which maximizes your potential for profits.
Furthermore, take profits when you earn them! The worst feeling in the world is saying, “I think it will go higher,” after it already rose 20% and then all of a sudden it drops, and you lost all your profits.
Another thing that is highly encouraged is doing research. It may seem obvious but I can’t emphasize this enough to new traders. I know it’s difficult initially due to the ambiguity of penny stocks, but you have to push through that to make an informed decision. If you find that a company’s financial statements aren’t reliable, you might want to avoid investing in it. Everyone has their own level of risk tolerance though, so it’s ultimately up to you to decide if you’re ready to take on that type of risk or not.
On another note regarding research, pay attention to overall market news, geopolitical developments, and sector/industry news. These are all factors that could impact an investment of yours so it is good to keep an eye on them. There are plenty more things to do in order to learn the basics of investing in penny stocks. Check out some other articles below.
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