Have you ever locked yourself out of the house or your apartment? Sucks, doesn’t it? No keys, so you can’t get back in. Then you have to call the locksmith or the manager …
How about trying to sell something you no longer want on eBay? Like some exercise contraption you never used. It’s collected dust for the last two years and you just want to unload it for a reasonable price. But nobody is buying …
Trying to trade illiquid stocks is kinda like that. You want to get in or out of a play but you can’t because there’s not enough trading volume. The penny stocks I trade have two basic requirements …
… Volatility and liquidity.
Download the key points of this post as PDF.
This isn’t rocket science. There aren’t a thousand different things you have to know. There aren’t a thousand different patterns or catalysts. There aren’t a thousand different requirements for finding the right stocks to trade. There are only a few.
But you have to learn to recognize the patterns, catalysts, characteristics — all the things you do need to know. It takes studying. I recommend a mentor. Like me. Join my Trading Challenge and you’ll be part of a badass community.
OK, rant over. Back to volatility and liquidity.
Volatility is big price action. Swings. Movement. As a penny stock trader, volatility is your friend. So is liquidity, which is what this post is about.
Table of Contents
- 1 What Are Liquid Stocks?
- 2 How To Identify Liquid Stocks in 5 Steps
- 2.1 #1 Use Stock Screener
- 2.2 #2 Use Chart Patterns While Trading Liquid Stocks
- 2.3 #3 Stock Analysis
- 2.4 #4 Be Prepared to Short The Stock
- 2.5 #5 Never Stop Learning
- 3 The Bottom Line
What Are Liquid Stocks?
As a day trader, I specifically look for liquidity when I’m considering a play. What are liquid stocks? Liquid stocks have enough trading volume that you can enter or exit a trading position without too much trouble. There are buyers and sellers making plays.
For a day trader, there’s not much worse than holding a 10,000 share position and watching the whole trade implode because you can’t buy or sell. Illiquid stocks don’t have enough trading volume to be a good opportunity. Plain and simple.
Benefits of Trading Liquid Stocks
One of the most important things I teach my Trading Challenge students is risk management. Your risk management strategy shouldn’t be an afterthought. That’s a fast way to disaster. Believe it or not, risk management is probably the number-one benefit of trading liquid stocks.
Day trading involves timing your plays with fast-moving prices. Penny stocks — the ones I trade — are volatile. Liquid stocks let me open and close positions quickly and stay within my risk management strategy.
Here’s a blunt fact about trading penny stocks: Most penny stocks are not liquid.
It’s one of the built-in cons — as in pros and cons — of trading penny stocks. That’s why I want you to understand how to find liquid stocks before you risk your hard-earned money.
If you already trade penny stocks you know it might take a little longer to execute an order. It’s not like trading Microsoft (MSFT) — where your buy or sell order is going to get executed almost instantly. It’s a built-in feature of trading penny stocks that orders take a little longer to execute.
“But Tim, why would I want to trade stocks that take longer to execute? Isn’t that risky?”
That’s why I teach risk-to-reward ratio and risk management. In my opinion, hoping your shares in some giant corporation are going to make you rich before you retire is real financial risk! Here’s the deal …
I recommend you look into penny stocks that trade in the 200,000–5 million shares per day range. They’re liquid but not the most active. Penny stocks that trade in the 50 million plus range are liquid but too choppy for me. I tend to get scared out of the trade.
Also, understand the market can shift. Last month’s supernova might have already fizzled out. What’s in play this week might not be in play next week. Trading strategies change based on what’s really going on in the market.
There’s a lot less competition trading penny stocks. Plus, as long as you know beforehand that you need to find stocks with good liquidity, you’re one-up on the competition. Seriously.
Most people buy these stocks because promoters hype them to their email list. Maybe the company thinks they have the next big thing so they put out a press release. Let me tell you a secret: almost all these companies are going to fail. Don’t think you’re getting in on a MSFT at the beginning. You’re not.
You’re here to learn how to trade and you want the best chance to be successful.**
Here’s a big-picture reason to be a fan of liquidity: Imagine what would happen if there wasn’t a liquid stock market. If it was difficult to buy and sell shares, the markets would grind to a halt. It would affect investment in business. Who wants to invest in a company only to be told you can’t get out of the investment?
Does this make sense? The secondary market for company shares and other types of securities is what makes investing in a company attractive. The secondary market is what you and I are trading. A liquid stock market is what makes it possible.
Back to liquidity in penny stocks…
Why Is Liquidity Important While Determining Entry/Exit Indicators
Knowing your entry and exit points will help you determine whether a trade fits your risk management strategy. Ultimately, it determines the success or failure of your trade.
No matter how well you plan, not every trade is going to work out in your favor. I only win about 70% of the time.** If you do your homework and create a plan for your trade, you’ll have targets for when to open and close your position.
Plan? What plan? If you follow what I teach, you’ll have the trade ready to execute beforehand. And not only the entry and exit points. You’ll know what pattern you’re trading, the reason or catalyst, how much you’re willing to lose should the trade turn against you (risk vs reward) …
This isn’t gambling. It’s a skill. Remember that. Here’s my free trader checklist course so you know what goes into your plan. That’s more than 11 hours of bad-ass content to help you get started.
Ok, say you’re ready to make your play. You’ve studied and you have your plan …
All good, right? But what if you missed the mark on liquidity? What if trading volume sucks or there’s some sort of slowdown — for whatever reason? You could have everything worked out and then not be able to get in our out of your trade and end up completely screwed.
In your plan, it’s called ease of entry and exit. Entries and exits rely on timing. Liquidity has an effect on timing. Remember, orders take time to execute. You want to be in and out of your positions as close as possible to your targets.
When building my watchlist I have a few requirements:
- I’m looking for penny stocks that are highly volatile …
- And highly liquid …
- Then I’m looking for big price moves and a catalyst that makes sense, like news or an earnings release.
For liquidity, you want to keep an eye on trading volume. Don’t mess around with illiquid stocks — they’ll bite you in the ass.
What’s my number one rule? If you’ve been reading my blog for a while you should know this. If not, make it a mantra: cut losses quickly. Liquidity makes this possible. Of course, you still have to act on it …
… trade-chasing is a bad idea…
…. but if the stock is highly liquid at least you can close your position. Win or lose.
How To Identify Liquid Stocks in 5 Steps
By now you should have the importance of liquidity burned into your brain. So how do you find stocks with good liquidity?
#1 Use Stock Screener
The right tools make all the difference. Can you imagine trying to do almost anything without tools? How about mining for gold? Without tools, you’d never get anything out of the ground. How about something simple like raking the leaves without a rake? Not possible.
If you have the right tools, study hard enough, and take your time to build your account …
… then you’ll be able to hire someone to rake the leaves. Pay that kid down the street enough so she can save for college. Better yet, pay her enough so she can start trading. Sounds cool, right?
Seriously, you need the right tools. It’s an investment in your future. A high-quality stock screener can help you find the stocks you’re looking for. For today, you can start with one of the free tools.
Head on over to finviz.com and then click the screener tab. There you can screen for stocks listed on one of the major exchanges. However, there are limitations and certain stocks won’t show up even if you know the ticker symbol.
You can screen for average trading volume (over 52 weeks), current volume, and relative volume. Relative volume compares present volume to previous volume over a given time frame. It shows you changes in volume. That might be useful, right?
To trade penny stocks you’re going to either need to have a bunch of different stock screeners open on your multi-monitor trading setup. Or you could use the one tool to rule them all…
Now we’re talkin’.
StocksToTrade is like my McClaren 650S: it rules. It’s a super-advanced, real-time scanning and trading platform that I helped design. It was made for what I do and what I teach all my Trading Challenge students to do.
Did I mention it’s real-time? If you go over to finviz and look for liquid stocks based on what I’ve written in this post, it’s a good thing for your education. But when it comes time to trade, you need to have access to information in real-time. Top-quality tools like StocksToTrade will make your life soooo much easier.
Yes, it costs. Like any business, penny stock trading requires an investment. Trust me, it’s well worth it … like the aforementioned McClaren.
Back to liquidity and volume using StocksToTrade. You know how you had to go click on this and click on that — input this and input that — to get average volume on other stock screeners?
That’s friggin’ craaazy! StocksToTrade does this in its most basic widget called the Basics Box. It includes the high, low and open. It includes volume and average volume. It includes the float, market capitalization, earnings per share…
… all this in the Basics Box! That’s without even getting into the screener! Yep. Worth it. Save time. Spend it with your family or something. Read a book. Let the software do most of the work.
#2 Use Chart Patterns While Trading Liquid Stocks
I love to trade patterns. It’s all I do. It’s how I made my first million, my second million** — pretty much all my trading wins are from recognizable patterns. There are a few you should learn.
Example of Great Chart Patterns
Here are a couple of my favorite plays. They tend to happen over and over again. There are haters out there who say things like, “Tim talks about patterns that don’t work anymore. They’re all played out …” That’s total BS. These patterns have stood the test of time. Why? Because they’re based on human psychology. Humans are predictable.
Dip buying morning panics is one of my recent favorites. The ASNS chart below isn’t the strongest bounce but you get the idea. It’s the psychology of this play you want to recognize. Why morning? Because the trading volume is higher — the stock is more liquid and more likely to bounce.
This is one of my all time favorite patterns. It made me my first million.** Check out the CANB chart below. Weed stocks went crazy in 2018. Lots of supernovas. Notice the volume spike — liquidity increased during the price spike and fall back in August.
#3 Stock Analysis
Part of what you’ll learn when you join the Trading Challenge is how to do stock analysis. But not super-math-whiz type of analysis. I don’t use the fancy technical analysis indicators. Day highs, lows, and momentum work for most of the trades I make.
That’s not to say you won’t have to study your ass off! You will. There’s no cheating success in the stock market.
Technical and Fundamental Analysis
You need to learn both technical and fundamental analysis. Most losses come from disregarding some key indicator. It might be something from either of these two methods.
Fundamental analysis is more about the company — how does it do business? What are it’s products? Is it doing deals with some big, established company? Is there a new product release coming soon?
Technical analysis is like the charts above. How is the stock behaving? Is there enough trading volume? Are there trading patterns forming. Is there a history of morning panics?
A combination of technical and fundamental analysis should be part of your trading plan. Keep it in a trading journal so you can remember what works and what blows.
#4 Be Prepared to Short The Stock
Shorting is another of my favorite plays. It’s how I made my second million.** It isn’t so much about finding liquid stocks as understanding what to do when you do find them.
Short-selling means you borrow shares to sell. When you sell the borrowed shares the money goes into your trading account. Then, when the price drops, you buy shares at the lower price and pay back the borrowed shares.
This strategy is not always available — sometimes it’s hard to find shares to borrow. But stocks with good liquidity will be better for short-selling. It can also be downright dangerous. To learn the ins and outs of short selling if you join the Trading Challenge.
For a brief explanation of what short selling is, check out this video I made (and don’t forget to subscribe to my YouTube channel — there are over 1,100 videos there!) …
#5 Never Stop Learning
I don’t care how good you are, how long you’ve been trading, or how much money you’ve made …
… if you want to do this full-time and live a life most people can’t…
… then you need to do what most people won’t do.
Meaning: Never stop learning. Keep your trading education going. Study like your entire future depends on it.
What’s the best way to do that?
My Trading Challenge gives you access to tons of information: webinars, video lessons, a community with other Trading Challenge students — plus advice from successful traders.
The Trading Challenge is my blueprint for creating self-sufficient stock market traders.
It’s everything I’ve learned from 20 years of trading and 10 years of teaching others how to trade. All of my most successful students are part of the Trading Challenge.
I’ll teach you from A to Z. It doesn’t matter if you know nothing about the stock market or you’re not good at math (I’m not good at math). You don’t have to be a genius. But you will have to work hard.
Are you ready? Apply for the Trading Challenge today.
The Bottom Line
Remember this …
I tell my students they should have a trading mantra.
Let’s come up with one right now. Repeat after me: “I will trade volatile and liquid stocks.” Repeat it to yourself every day.
Stock liquidity for traders means ease of entry and exit. It means you won’t be stuck in a trade. There are other things to consider as well. So don’t think because a stock is liquid and volatile it’s a gimme. But liquidity is one of the basic things you should look for.
Are you a trader? What do you look for when it comes to liquid stocks. Share your comment below. Even if you’re just starting on your trading journey, I want to hear from you.