Are You Investing, Day Trading, Or Gambling With Penny Stocks?
Clearly, penny stocks have gained a massive amount of interest this year. That was a continuation of what began last year. Millions of new traders were introduced to the markets while searching for ways of making money during the pandemic. It was really the ideal scenario: Many were laid off, furloughed, let go, or working remotely.
What can someone do from home that would allow them to make money and not risk contracting coronavirus? Well, you could start an online store, sell virtual services, or pick up a new skill like trading. If you check out the penny stock brokerage growth stats from 2020 we compiled, the first 9 months of the year saw a mass-entry into markets by novice investors. This brought with it a broad mix of newbies, those who “tried the markets,” and others trying to hone their skills, shifting from long-term investor to active day trader. Nothing was wrong with any of this on the surface. But now, we’ve begun to see the pure madness that is the stock market under a regime of new traders.
Many times there isn’t a rhyme or reason to their trading style other than, “Stonks only go up.” Technically speaking, other than a period up to 1932, “stonks” have upheld a clear bull trend, well, forever.
Sure, there’ve been periodic points of decline. But with respect to the overall trend, there hasn’t been any other time where the market has erased over 100 years of gains. With this as the backdrop of what these new traders understand as the bigger picture trend, why not dive in head-first without any education or understanding, right?
Penny Stocks Shine Bright In 2021
What initially began as “playing COVID stocks” turned into something much bigger. These new traders quickly learned that you could actually use strategies so that the market isn’t one big casino; you can actually become consistently profitable. But this takes time to learn and time to perfect. So, what’s the “CliffsNotes” version of learning? New traders have found social media and discussion forums as tools to gain insight into markets. This has created a wild west environment with trading styles having very little depth, fundamentally and more of a focus on technical trends and catalysts.
[Read More] How To Buy Penny Stocks On Robinhood
No other recent example would be better than GameStop’s (NYSE: GME) epic rally over the last few weeks. Shares of GME stock had been steadily climbing thanks to actual headlines and fundamental developments. But when Citron Research came out against the company, this is when we saw a flurry of “Redditors” and “StockTwitters” come to the rescue. Despite Citron’s bearish case on the company, day traders weren’t having it and started buying up shares of GME in blocks. This ultimately triggered a short-squeeze in the stock, and GameStop ran from around $20 to highs of $159.18 in 8 days.
After the dust had settled, GameStop shares plummeted from $159.18 to nearly $60 a share. For the experienced trader, gains were likely already taken on the way up. The problem came when new traders buying into the hype thought “stonks only go up” and watched their position drop by 60%. This is one of the biggest points we try to explain. The educated vs. the uneducated trader appears the same when there’s a bull market. But when there’s volatility, not know how to actually trade can become a costly problem.
A New Type Of Risk Presented By OTC Penny Stocks: Ghost Ships
Short squeezes and technical breakouts aren’t uncommon, especially for NASDAQ and NYSE listed penny stocks. But what about the OTC? The Over-The-Counter exchange has become well-known for its “mystery.” That’s because companies don’t have nearly the same level of reporting requirements that listed companies do.
In fact, there’s a whole group of OTC penny stocks know as Ghost Ships. If you go to the OTC Markets website, they do a good job identifying companies with certain logos. Two to be particularly aware of are the “Yield” and “Stock” signs. These two monikers indicate a company is either late or has now provided financial information in a long time.
In the case of “stop sign penny stocks,” these are basically dark and defunct companies. Most haven’t put a press release out or filed a document in months, some even years. There’s no way for traders to get a fundamental overview of a company’s financial wellbeing. But for traders who are buying them, they aren’t likely buying to invest in the next Apple.
Ghost Ships Send Novice Traders Walking The Plank
They’re taking advantage of the fact that the company itself (and its noteholders) may not be paying attention or even capable of selling shares. These are some of the highest-risk penny stocks you could ever come across. Not only are they at risk of being delisted, but they are also at risk of being halted by the Securities and Exchange Commission. It doesn’t matter if a penny stock is up 1 million percent. If it gets halted, your entire position is worthless.
Recently, stocks like Cyberlux Corp (OTC: CYBL) and Blue Sphere Corp (OTC: BLSP) have all been the targets of widespread hype and touting. One article from Bloomberg highlighted that with BLSP, in particular, members of certain discussion board communities were unabashedly touting the penny stock to lure novice traders into buying shares of the ghost ship company. This is where many “pump and dump” schemes have originated in years-past.
Bloomberg pointed out that JJ Kinahan, chief market strategist at TD Ameritrade, has seen this hype and had advice regarding these types of stocks.
“Those would be one of the ones on the top of my list to say to people, ‘Please understand the risk that you’re taking going in there.’ I learned early in life, if there’s a lot of upside, there’s a lot of downside. People just might not want to tell you about the downside.”
Even in light of the risks involved, it didn’t stop traders from buying billions of shares of these ghost ships this month. In many cases, at their high in 2021, many had rallied thousands of percentage points. But just as Kinahan explained the downside was just as big. To this point, many of the ghost ships have also dropped over 50% from their highs (so far).
Plan Your Trade & Trade Your Plan
Does this mean all penny stocks are bad? No, and as we’ve seen in 2020 and 2021, many of these stocks under $5 can go on to become bigger industry players. Look at the countless electric vehicle penny stocks that went on to become $40 and $50 stocks. Plenty of green energy stocks have also followed suit, and you can forget about all of the COVID-related names that ended up running as high as $190 a share within the past 12 months.
The success or failure of trading comes down to one thing: you. If you’re looking to catch lightning in a bottle and ‘be set for life,’ play the lotto. If you want to become consistently profitable trading stocks (not just a few ‘wins’ here and there), get educated.
Understand how the market reacts to news, filings, insider activity, rumors, hype, etc. You can be better prepared for things like GameStop, Nokia (NYSE: NOK), or Kodak (NYSE: KODK) from last year in this light. You’ll understand how to trade parabolic moves and avoid things like Ghost Ships. There is a seemingly endless number of far-better stocks with high volatility to trade than focus on these defunct companies. What’s more, some companies end up becoming something down the road. Again, the EV space has turned many small-cap companies into industry contenders. None of them started as defunct companies.
Trading Penny Stocks In 2021
To make a long story short, there’s no shortage of speculation in the stock market today. It isn’t just penny stocks but higher-priced ones as well. GameStop is a prime example of this. But there’s a difference between watching stocks and trading them. If high volatility stocks are something that interests you, be prepared. Understand the risks involved and weigh them against the potential reward. It also doesn’t hurt to analyze market trends to see if alternatives may present a “safer” high-risk scenario.
At the end of the day, remember that nobody ever went broke taking profit. If you sell out of a trade and the stock continues higher, keep an eye on it. If a trend is truly as strong as you think, there may be opportunities later on to re-enter.
The bottom line is don’t let shiny objects distract you from good trades. The ghost ships may be pretty to look at but more times than not, they create more bag holders than anything else. As of the lunch hour on January 26th, the ghost ship stocks mentioned have dropped as much as 48% from prior highs. It may also be worth mentioning that GME has also dropped more than 25% from its high. Though it has rebounded by more than 75% from its Monday afternoon low.