A lot of traders like to take advantage of different ways to analyze penny stocks. These include fundamental and technical analysis. Technical analysis is a unique method that uses a stock’s previous price action in order to predict its next move.
Initially, it can be difficult to learn and utilize, but the more you practice the more advanced you can become. Furthermore, technical analysis for penny stocks is a wide field of analysis and most traders don’t use the same methods.
You need to remember a key distinction about technical analysis. It is meant to predict. This means that its predictions can be wrong, no one knows the future for sure. Because of this, technical indicators used in technical analysis have the potential to “fake out” investors.
A “fake out” occurs when an indicator signals a certain move, but does the opposite, resulting in a bad trade. These “fake outs” are a reason why many traders use multiple indicators to reduce the likelihood of them.
Penny Stocks Technical Indicators #1: Moving Averages
One of the most used technical indicators for penny stocks are moving averages. Moving averages are extremely versatile indicators that help show trends from previous price action. They are known as “lagging indicators” because they are based on historical price points instead of current price points.
Moving averages are the sum of a certain amount of price points divided by the total number of prices plotted as points. Let’s give an example:
|Dates||Close Price on Certain Date|
In this example, the simple moving average for the past 4 days would be:
$5+$6+$7+$8 = $6.50
As stated earlier, moving averages can be calculated by changing different variables. You can find the moving averages for closing, opening, high, or low prices. There are 2 universal types of moving averages, simple and exponential. The example shown above is how a simple moving average is calculated.
The main difference between the 2 types is that exponential places a heavier emphasis on more recent price action. In the example above, the price on 1/4 would be more influential than the price at 1/1.
Penny Stocks Technical Indicators #2: Moving Averages As An Indicator
Here is the chart of Apple Inc (AAPL) with 2 simple moving averages as indicators:
The reason the simple moving averages (SMA) differ is due to the time frame each one was set at. The red SMA has a 13-day time frame while the blue SMA has a 30-day time frame.
The ideal scenario is where the 13-day SMA crosses above the 30-day SMA the first time. This is considered a bullish indication. You can see a clear break above the 13-day SMA, and it stays above that trend until it crosses back over.
The reason traders need to wait for the clean break is due to the instance where a fake-out occurred on the chart. When the 13-day SMA crosses below the 30-day SMA, it is considered bearish and the stock is expected to go downwards. However, the stock does not go down and instead continues upward.
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The cross below lacked the clean break that would have helped confirm the trend. Other factors to consider include volume and potential catalysts for or against certain penny stocks. The oil and gas industry is notorious for fake-out scenarios especially considering the volatile nature of the industry. Make sure you’ve got your diligence in check before looking at any indicators like these.
Closing Thoughts About Penny Stocks & Technical Indicators
Layering simple and exponential moving averages together can already make you second guess yourself. Don’t solely rely on this indicator alone. Like I stated earlier, use additional indicators like volume and trend lines to further support your analysis. You can never be too safe. Being able to identify strong opportunities while avoiding fake outs is essential for any successful trader.
Ready to learn more about penny stocks and technical analysis? Check Out how to make money with penny stocks. You may also like to read our article on Penny Stock Chart Patterns Every Trader Should Know.