How do you go about choosing penny stocks?
There are literally thousands of stocks to choose from, and new ones being listed every day. This has the potential to make you, as a trader, feel totally overwhelmed.
So, how do you even begin to narrow it down?
While every trader has to develop his or her own method of choosing stocks. there are certain tips that can be helpful to traders of all levels.
Let’s dig into penny stocks. We’ll cover what a penny stock is, how to find good penny stocks, and what to do once you’ve identified a potential pick.
What Are Penny Stocks?
Essentially, a penny stock is a stock that trades for under $5 per share. These are tiny companies with lots of volatility, low volume, and high risk.
However, if you’re like me, you’ll learn to love penny stocks because they can offer tremendous potential, both for buying and shorting.
You’ll find penny stocks on the OTCBB and the pink sheets. You can trade them through your trading account just like you would any other stock, but you won’t find them on the NYSE — at least, not usually.
The great thing about penny stocks is that you can take potentially take a big position in a stock you know will break out or break down, then get out before the full movement completes.
I have no problem with taking small profits, a little at a time, or with taking a larger position and potentially profiting hugely** on a stock that sells for two bucks a share.
How to Find Penny Stocks Before They Are Pumped
Penny stocks are often the subjects of “pump-and-dump” schemes.
During this type of tactic, a company or promoter will hype up a particular microcap stock to get as many investors to buy in as possible. The stock price goes up because demand surges, but the price will eventually plummet because the inflation is artificial.
A potentially great way to exploit a pump-and-dump is to get in BEFORE the pump.
In other words, you want to spot a potential promotional target so you can buy up a few shares — though not enough to influence the market — and sell close to the height of its popularity.
The major thing to look for is subtle accumulation. A promoter will begin gathering large positions in the stock, but in small chunks so he or she doesn’t alert other investors before promoting the stock.
What to Look for in Penny Stocks
I’ve bought and sold a lot of penny stocks over the years. Some have cost me $4.90, while others might have set me back just $1 per share.
I use a lot of strategies to find good penny stocks so I can slay each trade, from dip buying to short selling. However, there are a few qualities that I find most good penny stocks share.
How to Find Good Penny Stocks in 10 Steps
To help find good penny stocks to buy or short, consider these specific qualities. Hopefully, they can help you short the potential hot picks from the losers.
1. Research the Company
One of the first things to do when deciding on a stock is to give the company in question a quick Google search. While it definitely won’t provide all of the answers, this quick-and-easy step can often give you enough information to determine if the stock is even worth your time and research.
For instance, if things seem really sketchy and it’s hard to find information on the company in question, this could be a bad sign. Ultimately, it’s your decision to make, but start by doing a little research on the company itself to determine a stock’s value.
Pay careful attention to the Google News tab. Often, you can get lots of information quickly about a company based on past news releases and journalistic stories.
2. Understand the Volatility
One of the next big things you’ll look for when choosing a penny stock is stock price volatility.
With penny stocks, you don’t necessarily want stocks that are moving slowly or down-trending for months at a time; rather, you’re looking for stocks that are rapidly spiking.
The stocks that are moving quickly are often those that you want to closely examine as a penny stock trader.
These days, there are plenty of tools to help sort the potentially big gainers and losers, which can help you establish a good starting point from which to sift through those stocks and when deciding which ones to buy.
Start with StocksToTrade, since no other platform is built specifically for penny stocks and far too many websites and platforms out there ignore some of the biggest percent gainers just because they’re low-priced stocks.
The discrimination against penny stocks is real, and while I consider it laughable, missing one or two great plays per week or even per day can sometimes be the difference between you becoming my next Millionaire student or not.
Think of it this way: If a stock is hardly moving at all, there isn’t any activity. You’ll have few buyers and few sellers, which means you can’t take a large position and — even worse — you might have trouble getting rid of your shares.
Remember, volatility is a good thing. It means there’s action, whether up or down, that can potentially get you WAY ahead.
3. Importance of Volume
It’s a common rookie mistake: You get so fixated on looking for stocks that are moving that you neglect to look at volume. Ignoring volume is huge error that can ultimately lose you money.
The fact is, volatility isn’t the only factor that can help you determine strong choices when choosing good penny stocks. Liquidity matters too, and no matter how enticing a company’s press release may look, if there’s not much volume behind it, don’t trade it.
The volume is the number of shares that are changing hands on a given day. As a trader, it’s important to begin to piece together the puzzle by looking at movement and volume, which can give you a more accurate look at the activity and viability of a good penny stock to trade.
Normally, I don’t like trading stocks with under 200,000 shares traded per day. If I wanted to be conservative, I could go with 500,000 just to be extra safe.
Essentially, high volume means that there’s interest in a stock. When you decide to sell, you probably won’t struggle to find a buyer, and if you want a large position, you can take one.
To advance your choice of stocks, be sure to consider a catalyst, as well.
A catalyst is what it sounds like: A thing that precipitates an event. In the stock market, a catalyst might be an event or release that is poised to raise the value of a stock.
Let’s look at an example. Say that you read a press release from Penny Stock Company X informing consumers that they’re releasing a new product. Potentially, this new release could have a big impact on the value of that stock, so it may be a good time to buy now before it hits the mainstream.
A new product is only one example. You could also look for mergers, sales, and/or other developments.
Being able to scout the news and the world for events can give you insight into what types of catalysts might be worth your while and potentially make a stock worth the investment.
5. What Others Are Saying
It’s good to listen to the buzz on the street about penny stocks. But let me be completely clear about this …
While it can be helpful to listen to what others are saying about a particular industry or stock, this doesn’t mean you should EVER blindly follow another penny stock trader or promoter’s lead when it comes time to buy.
Rather, it’s by learning and observing that you can begin to forge your own path and create a career as a trader that is authentic and appropriate for you. Watching others can help you learn from their mistakes and successes.
6. Get More Knowledge About Patterns
It’s commonly stated that history repeats itself. Well, in my experience, history never repeats itself to the letter — but can often lend many powerful clues about what may and may not work.
For example: Let’s say you had the experience of trading a stock that you felt really good about. The company had great volume, great movement, and a catalyst, but things flip-flopped at the last minute, which cost you money.
There may be aspects of that trade that can inform you in the future. Analyze what works and what doesn’t about trades so that you can make educated decisions about investments in the future. Keep a log of your trades to help you mitigate risk next time.
My student Tim Grittani, who is one of the biggest success stories from my team, is great at identifying patterns. And, for your benefit, he’s transparent about his trading. Learn from him and use him as an example of what can be possible for your own trading.**
7. The Time of Day
The best types of stocks to choose often vary depending on the time of day.
The same stocks that make for a great play in the morning might not be the same as mid-day or afternoon. You’ll learn how to tell the difference and what to look for at various times of day and why.
See this great penny stock pattern that I usually prefer trading only in the morning.
To a certain degree, this is something that you’ll learn as you go, but it’s important to know that there are many different variables when choosing good penny stocks and that it’s important to always stay on your toes.
Additionally, you’ll figure out the time of day when you most like to trade. For example: Maybe you’re not a morning person, but you tend really rock the few hours before the market closes. Listen to those instincts.
8. Pay Close Attention to Debt
Know this: A company with ton of debt is a red flag.
Choosing good penny stocks means looking at a company from all angles, including the debt it’s taken on to keep itself afloat.
When a company is swimming in debt, it’s struggling to stay alive. That’s not when you want to trade a stock. You might consider a company with lots of debt as a candidate for short selling, but only if other indicators point to it being a good play.
9. Find Penny Stocks With Favorable Liquidity Ratios
Every company has assets and debts. The comparison between the two is called the liquidity ratio.
For example: Let’s say that a company has $100,000 in debt and $50 million in assets. This is a favorable liquidity ratio because the assets far outweigh the debts, which means the company has working capital.
10. Use a Stock Screener
Many trading platforms, such as StocksToTrade, have custom screening tools to help you find good penny stocks. Screeners allow you to filter the stocks you see based on custom criteria, such as volume, volatility, market capitalization, and more.
How to Come Up With a Penny Stocks List
You can’t make a list of good penny stocks without using some type of tool. There are free and paid tools available, many of which come with trading accounts, and you can use them to screen for the best penny stocks on the market.
How to Find Penny Stocks on StocksToTrade
As I mentioned above, StocksToTrade offers a custom screening tool along with a handy video on how to use it. It’s also a great tool for getting market news, researching a specific company, and looking for chart patterns.
Key Tips to Develop a Penny Stock Strategy
Every investor needs a sound strategy. Actually, you’re better off if you have several strategies that work for you.
- Get Ready For Risk: Realize that you’ll have to put your money on the line. Sometimes you lose — just like I do — so you learn from your mistakes and move forward.
- Assess Your Investing Needs: Why are you investing in good penny stocks? What drives you? If you know your needs and goals, you can invest more strategically.
- Invest Only What You Can Lose: Remember that no investment is ever guaranteed to result in profit. Don’t invest money that you’re not prepared to lose.
- Find Guidance: You need someone in your corner to help you discover how to find good penny stocks and give you feedback on your trades.
- Let the Trades Come to You: Don’t trade just because you have an itchy clicking finger. Instead, wait for good penny stocks to reveal themselves to you. Only trade if it makes logical sense.
I’ve met many people who have gotten themselves into trouble because they didn’t have a plan.
They might have found good penny stocks, but didn’t know when to exit their positions. Perhaps they made trades based on emotion rather than strategy. Don’t fall into these types of traps.
Instead, focus on honing your skills and mitigating your risk. If you make a mistake, exit the trade and cut your losses early. You’ll thank yourself later.
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The Bottom Line
There’s nothing wrong with penny stocks. They’re my bread and butter. Some people rally against them, but I take my profits happily.**
However, you have to know how to find good penny stocks. These are companies with high volume and volatility, a catalyst that indicates a change in price movement, and basic solvency.
What’s your favorite thing about trading penny stocks?