What Are Penny Stocks?
The market for penny stocks has continued growing over the last few years. But what are these stocks in the first place? The Securities & Exchange Commission defines penny stocks as shares of companies trading below $5.
It can be challenging to make money with penny stocks if you invest blindly and don’t take the time to learn how to trade. Sure, it may be simple to set up a trading account and start buying, but there is so much more involved when looking to make consistent profits.
Penny stocks are volatile and high-risk assets. So you want to learn how to day trade them while mitigating this risk the best way possible. It all starts with research. Knowing the pitfalls of investing in these cheap stocks is essential to trading them, though. Many stocks under $5 can be prone to manipulation, most recently from things like private groups of retail traders on places like Reddit and other social media platforms.
How Do You Buy Penny Stocks?
One common question that investors may have is, “How do I buy penny stocks?”
The goal when investing is obviously to make money. But there are a few things you need to know before putting your hard-earned dollars into these cheap stocks. Since penny stocks trade for less than $5, this means the smallest price change can actually connect with a large percentage change. For example, if a penny stock moves up $0.50, it is a much larger percentage change than it would be for a large blue-chip stock trading for $100.
Let’s use this example: shares of the Latin American brewing company Ambev (NYSE: ABEV) only need to jump about 25 cents to return a 10% gain. If Anheuser-Busch (NYSE: BUD), which has a controlling interest in Ambev, recorded a similar gain, it would have to climb over $6 per share.
The chances of a 25 cent move happening sooner than a $6 move are much higher. When looking at the other side of this, a 25 cent move lower can happen more quickly than the same $6 move lower. So the risk goes hand-in-hand with the potential reward.
Should You Day Trade Or Invest In Penny Stocks?
There are two types of things you can do when looking for penny stocks to buy. There is long-term investing, and there is short-term trading. When investors are going long-term, they don’t bat an eye at small losses or short-term sell-offs. They simply hold onto the assets, planning to stay in the position for years at a time.
On the other hand, many want to day trade penny stocks. Day trading can often be a difficult feat without proper education. The volatility of these assets can make them extremely risky. But thanks to this volatility, many times, a trading strategy can be better than an investment strategy early on.
Some traders will also take on a “starter position” to “trade around.” This usually entails taking a tiered approach to trading. Buying and selling along the way, all while holding a main, core position. As long as the overall trend is going in your favor, buying at interim lows and selling portions at interim highs can allow for a way to benefit in both the short and long term.
Learning technical analysis can help identify things like strong uptrends. A “tiered approach,” in this case, might entail holding a core, then buying at the “higher low,” selling a piece of the position at the “higher high,” and continuing the process. Despite the higher risk of trading low-priced stocks, there are plenty of penny stock success stories.
Penny Stocks & Success Stories
There are so many examples of penny stock success stories that I could not fit them into one article. One company that we can talk about is Blink Charging Co. (NASDAQ: BLNK). Shares of BLNK stock were under $3 back in June of 2020. Now the company has a stock price of over $35 a share. This is a prime example of how penny stocks can skyrocket and exit penny stock territory. This company, in particular, blew up because of the growing interest in the electric vehicle and lithium markets.
You’ve also got biotech stocks that skyrocketed over the last year. Novavax (NASDAQ: MARA) was trading below $4 per share in 2020. As of February 2021, the former penny stock had reached highs of $331.68.
Also, who can forget the epic rise of GameStop (NYSE: GME)? In 2020, the company was being compared to the likes of Blockbuster video. Many investors assumed the pandemic put the final nail in the coffin, so to speak. Fast-forward about a year, and it has become one of the most notable Reddit penny stocks in history, rising to a high of $483 from levels below $3 one year earlier.
With these penny stock success stories also come negative ones. As we mentioned before, these assets can quickly move up or down in percentages from small price changes. So it is important to know exactly how to day trade or invest in penny stocks.
Day Trading Penny Stocks: The Basics
Now you are wondering, where do you start day trading penny stocks? Before investing in any assets, you should probably learn the essentials. Knowing exactly what you are doing when investing will make this process a whole lot “easier.” The average trader entering the penny stock scene will lose more money than someone who conducts proper research.
There are a few strategies that can help you. One of these is paper trading. Paper trading is a simulated trade that lets you buy and sell without using real money. While you won’t make the big bucks when you’re right, you also won’t lose your hard-earned money when you’re wrong. Many services offer paper trading, and it can be a great way to test your strategy before putting it to work in real-money settings.
But what about the research part of trading or investing in penny stocks? Looking at recent news and company filings is a great place to begin your research. Monitoring technical indicators can also be a part of research to help identify trends and whether a stock’s move is strong or weak. For example, the volume of these assets and the chart patterns can be useful when looking for the best penny stocks to buy.
Protect Yourself With Stop-Losses
Using stop-loss targets is extremely important to remove some of the risks of trading. If a stock falls below a certain value, shares will be automatically sold off with a stop-loss order. You wouldn’t want this stop loss to be near the entry price. You still want some room for a little volatility. But if you set your stop-loss (whether a physical or metal stop) at a key technical level, you’ll also know what your risk tolerance per trade will be. This is one of the things many traders forget.
It isn’t about how much you make. It’s about how much you avoid losing by taking on a defensive strategy. If your gains are wide-ranging (+10%, +60%, +20%, +6%) but you keep your losses consistently small (-$100, -$100, -$100, etc.), then you have a better chance at consistent profitability. Another way to look at this is limiting your losses can make someone with a low “win rate” profitable.
For instance, if you risk $1,000 and make $500, you’ve gained 50% on your money. But if the next 3 trades you make, risking $1,000, result in 3 losses of $100 apiece, you’re still profitable. Your “win rate” isn’t great, but your account is net positive with those 4 trades. At the end of the day, it’s about making money with penny stocks, so keep this in mind.
Keep Your Penny Stock Basics In Mind
Day trading and investing in penny stocks are so much different from investing in regular higher-priced assets. You will need to trust your strategy to succeed. The fear of losing too much can occur if you do not trust your strategy. So choosing companies properly is important.
Those with strong financial backing, solid market history, and more than one reason for increasing tend to be the best penny stocks to buy. Just remember there is no problem with selling your position after making a profit on it; you don’t need to buy and hold forever. There is also no issue with adjusting your strategy as the market, world, and companies change over time.
Many people have gotten rich with penny stocks. It is a matter of patience and market strategy that results in reaching that goal, not luck. All in all, it is important to remember how high-risk penny stocks are. Knowing how to invest in and how to day trade penny stocks is important knowledge to have.
Nothing is stating that you need to sell immediately after seeing profits as a day trader. There is also nothing saying you must hold a stock for more than 6 months or a year as a long-term investment. At the end of the day, you can make money with penny stocks, and it is your choice as to what your strategy will be to get there.