Trading Penny Stocks? Make Sure You Know These 5 Things Before Jumping In
If you’re looking for penny stocks to buy right now, you’re not alone. In fact, if you look at some of the brokerage growth stats from 2020, you’ll see what I mean. With the global pandemic shutting down economies everywhere, people sought new ways to make money during the lockdown. The market offered a possible solution. With countless stocks dropping to record lows, the opportunity materialized. Even some of the biggest names in industries like travel and leisure fell victim to the rug pull.
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Hertz (OTC:HTZZ), AMC Entertainment (NYSE:AMC), and yes, GameStop (NYSE:GME) all felt the heat. Then you had your vaccine stocks, many of which were already trading below $5, that ultimately rose to the occasion and provided viable candidates to fight back against the pandemic. This is where we saw companies like Novavax (NASDAQ:NVAX) and even other biotech companies unrelated to the virus, like Cassava Sciences (NASDAQ:SAVA), explode. To put it into perspective, both NVAX and SAVA stock were trading under $4 a share before 2020 began.
Do all penny stocks perform this way? In short, no, and if you’re beginning your trading journey, it’s important to understand this. Something else to do is start learning how to trade penny stocks. Once you’ve got the basics down, it’s time to understand the landscape. This article will discuss 5 important stats all traders & investors should know about the market in 2021. Whether you’re looking at penny stocks or higher-priced names like Apple (NASDAQ: AAPL) or Tesla (NASDAQ: TSLA), this info is good to have in your back pocket.
1. What Are Penny Stocks?
This isn’t really a “stat” per se, but I think this is a good place to start. When it comes to the definition of penny stocks, many traders & investors have their own criteria. However, we’ll go by the standard Securities and Exchange Commission’s definition of penny stocks for this article. This references companies with shares trading below $5. The standard “retail” definition will focus on stocks under $1 trading for pennies. But in this case, we can talk about plenty more companies and still follow “the rules” of the market.
2. Penny Stocks Are Heavily Traded By Retail Investors
I said above that the pandemic created a new pool of traders. How big of a pool are we talking about? Well, in some respects, there hasn’t been as big a surge of market participation like this in quite some time. Robinhood was clearly one of the big winners of the growth in new traders. Thanks to the ease of use and a clear path to buying and selling, zero commissions, and mobile access, it makes sense as to why. Furthermore, according to Bloomberg Intelligence, retail trading accounts for more than even hedge fund trading does. The chart below, which was compiled from Bloomberg data by Financial Times, shows this trend:
Clearly, the period between mid-2019 and the present shows a dramatic uptick in the level of retail traders in the stock market. Meanwhile, the number of quant hedge funds, traditional hedge funds, and even mutual funds show a slight decline. With this has come an uptick in retail-fueled “Reddit penny stocks” and “meme stocks” as they’re being labeled.
What is a meme stock?
These are companies like AMC, GameStop, Clover Health (NASDAQ:CLOV), BlackBerry (NYSE:BB), and others that all came under pressure from heavy short interest from Wall Street firms. In an effort that I can compare to the movie “The 300,” bands of retail traders took to Reddit to compile data and “fight back” against hedge funds. In many cases, these retail traders have changed the face of how the market trades. It has become less about fundamentals and more about advocacy and momentum.
A look at the current year-to-date data from Nasdaq reveals some big figures. According to CNBC’s Bob Pisani,* volumes have exploded thanks to the surge in retail. Earlier this year, Pisani released an update highlighting that average daily volumes have more than doubled since 2019. At that time, he said that average figures sat around 7 billion, which sat above 14 billion this past January.
Furthermore, retail activity also showed to be a big outlier among the stats. The average daily volume of the largest e-brokers in December 2020 was 6.6 million shares. This was a record on its own. In January, average trades sat around 8 million.
Steve Sosnick from Interactive Brokers explained more minute details in trading trends as well. “There is a lot of volume in low-priced stocks, $2 or $3 obscure stocks where volumes have exploded. That tells me people are chasing momentum. They move because they start moving. People start talking about them [in chat rooms], and they move.”
4. When It Comes To Penny Stocks, There’s A Lot Of Noise So Do Your Research
One of the popular trends right now has to do with social media. Where hedge fund investors have their private “idea dinners” to attend for new trade ideas, retail has found a different home. This is where the idea of ‘Reddit penny stocks’ has evolved from. In this case, we’ve got millions of retail traders flocking to the platform to discuss new ideas, communicate different trends, & even commiserate on big losses. One of the most popular subreddits is r/WallStreetBets.
According to SubRedditStats, as of today’s date, more than 300 posts are made, with over 15,000 comments posted per day. That’s just from 1 subreddit. Considering that there’s a good chance that not all posts are “valuable,” it’s important to do your research. If you see something interesting online, it’s best to take things a step further and dig into the finer details. This not only helps you confirm the legitimacy of the information but could also lead to additional findings of your own.
5. Millions Of New Traders Are Flocking To The Market; Learn How To Trade Penny Stocks First
Thanks to the new retail flow, there’s a lot of competition in the stock market right now. What I mean by this is that you’re not just competing with Wall Street hedge funds. You’re also competing with other retail traders. This paramount growth in “mom and pop” traders is something that hasn’t been seen in recent time. In fact, according to JMP Securities, more than 10 million new brokerage accounts** are estimated to have been opened in the first half of this year. Putting that into perspective, that’s roughly the total for all of 2020.
Keep this stat in mind the next time you’re thinking about “YOLO-ing” a trade or assuming that there aren’t “a lot of other traders” in a particular trade. With millions of new market participants, volatile trades become more volatile, and low volume days look much different now than in years past.
Are Penny Stocks Worth It?
The ultimate question new traders ask. Of course, there are mixed responses to this depending on your personal experience with penny stocks. In short, if you can trade according to a plan, can handle higher risk, know how to keep losses small, and can take advantage of short-term momentum, penny stocks are a great investment vehicle. The important thing to understand aside from these market stats is that you are ultimately responsible for placing your trades, so do as much as you can to get good at trading, in general.