Chapter Five: Getting to Know Wall Street

Apart from the exchanges, you need to know your market indices. They don’t all affect penny stocks directly, but you’ll hear them enough in your time as a trader that it’s smart to get familiar with them now.

The first one is THE WILSHIRE 5000. This represents nearly all the stocks traded in the New York Stock Exchange, AMEX and NASDAQ. There are a few stocks for pennystocking here, but not many.

The RUSSELL 2000, on the other hand, is good. This index represents 2,000 of the smallest publicly traded companies, most of which come from the NASDAQ Smallcaps board (not the pink/grey sheets and the OTCBB). I love the Russell 2000—it’s one you’ll definitely want to watch.

The S&P 500 is probably the most well-known index of all time, other than the Dow Jones. This is a basket of a 500 widely held stocks, and it’s surprisingly irrelevant to pennystocking. In fact, there are no penny stocks at all in the S&P 500. It’s an interesting look at how the market as a whole is doing, but it’s pretty irrelevant to penny stock traders.

And, finally, the Dow Jones Industrial Average, which is a collection of 30 companies that Wall Street believes basically represents the overall stock market. Again, you won’t find any penny stocks here, so while it might be fun to watch, it’s pretty much useless for our purposes.

I can’t stress this enough, but you have to understand all the players involved in the game before you try and profit off penny stocks. Everyone has their own little angle—and everyone is out for themselves. If you don’t understand the motives of different Wall Street players, they’re going to rip you off, chew you up and spit you out.

First, let’s look at the traders—all the different people that are involved in the market.

• You have AMATEUR TRADERS—basically, new suckers—all the time. Amateur traders come in with big dreams and they think the stock market is all nice and rosy—like a version of Candy Land where you can make real money. There’s a reason why they’re called suckers; it’s because they keep losing money and they don’t learn.It’s fun to take money from amateur traders, but you don’t ever want to be one yourself. Reading this guide is one of the best things you can do to protect yourself.
• INDEPENDENT PROPRIETARY TRADERS. If I do my job right, this is where you’ll be after following my teachings. An independent proprietary trader is a person who trades with personal capital, using somewhat sophisticated to very sophisticated techniques. Most of this activity will likely be in trading penny stocks, but you may also take some of your new found knowledge to branch out into other techniques as well.
• MARKET MAKERS. Market makers are the professional security dealers who are actually executing your trades. They influence penny stocks, and sometimes, it’s even their job to work penny stocks. Understand that they exist—you’re going to see them around all the time as you get started making trades.
• INSTITUTIONAL TRADERS are people who work for large firms with big money and huge portfolios. They never trade penny stocks, because they think it’s pure gambling and they just leave it alone. I thank them for that—and I’m glad they’re “too smart” for penny stocks. I don’t want to have to deal with them when I’m getting into and out of my trades.

When I say “broker,” you might think of a company like Charles Schwab or Scottrade. But there are actually quite a few different kinds of brokers, and you have to understand how they’re all unique.

• “BOILER ROOM” BROKERS. If you’ve seen the movie Boiler Room or The Wolf Of Wall Street, you know that these are the brokers that use marketing techniques to promote stocks to amateur investors—aka suckers. They’re still hugely influential to penny stocks, even though they might not advertise or make as many calls as they used to. There’s still a lot of manipulation that occurs when it comes to penny stocks, but if you know how to spot these schemes, you can actually profit off them.
• ONLINE DISCOUNT BROKERS. These are the online websites that handle electronic trading for most penny stock traders. You can get an account set up with one of these services without much money so that you can start trading right away (visit this page for my preferred brokers).
• FLOOR BROKERS. These brokers execute orders on the exchange floor, though the types of securities and commodities they deal with makes them pretty much irrelevant to penny stocks. Forget about them.
• FULL SERVICE BROKERS. These are small and large firms alike, though they don’t usually have good penny stock trading because they consider it to be too risky (and since they’re licensed, they don’t want people to lose all their money and sue them). They just don’t want to deal with the hassle. So full service brokers, the majority of them, they don’t even matter. They’re irrelevant for what you and I are going to be doing.

I’ve already touched on promoters briefly, but I want to go into more detail on the types of promoters you’ll encounter as a penny stock trader. Remember, a lot of these guys are slimy, good for nothing scumbags who don’t care about ripping off gullible amateur investors.

But even though they’re not great people, you can profit by knowing who to watch and seeing what signals they’re throwing out.

• PENNY STOCK PICKERS. These are services that promise huge gains and that usually focus specifically on penny stocks, due to their great volatility and lack of active information. They love picking stocks, saying things like, “Oh, buy this stock—it’s going to go up 500%.” Please, that’s a joke. The people that listen to that type of stuff (except to time their pump and dump plays) deserve to lose their money.
• “GURUS” AND STOCK PICKERS. These well-known names focus on hardcore research, but they rarely pick penny stocks, because again, there’s a lack of fundamentals from penny stocks companies. There’s not much for them to do in this sector, since they tend to focus on bigger companies.
• PRINT, TV AND ONLINE ADVERTISERS. These guys provide entertainment and basic market commentary, but they’re actually legally prohibited from discussing penny stocks. This is such a great opportunity for us, because no one is talking about it. They can’t—it’s illegal for them to do so. So watch your TV, enjoy it, and be entertained. But then, come back here and learn the strategies they can’t tell you about to make some real money.
• PENNY STOCK newsletters. These are marketing machines that distribute research paid for by penny stock companies or their shareholders. Penny stock newsletters have to disclose if they get paid at the bottom, but the reality is that there are very few—if any—that are actually without bias. Don’t take them seriously, but do learn what you can from them to see where advertisers are pumping money into the market.(Want to know exactly how I profit off of popular penny stock newsletters? Apply now to join my millionaire trader challenge to learn more!)
• ANALYSTS are professionals who focus on higher-priced stocks, but as a general rule, they’re not smart at all. The vast majority of them like to talk a big game and write up huge research reports, but they’re actually wrong most of the time. And it’s kind of funny that they’re irrelevant to pennystocking—they should be irrelevant to Wall Street all the time. But what can I say? I’m an idealist.
• ECONOMISTS. Finally, these are the guys that analyze global and industry trends, which are again, largely irrelevant to penny stocks. Let them analyze their trends. Let them charge $30,000 dollars per report to these big companies that try and guesstimate trends. It doesn’t matter—it’s not going to help you make money. They just like to hear the sound of their own voices, so put them out of your mind.

Whew! There’s so much more I could teach you here—we haven’t even gotten into funds (think hedge funds or mutual funds), the SEC and all of its complicated rules and requirements, or the different types of institutional investors you’ll encounter.

Seriously, I wish I had another 200 pages to share all of this with you, but for now, we’ve covered enough of the basics to get you started. Keep learning about different Wall Street and stock trading concepts on your own time, but let’s dive into the meat of this guide—how to invest in penny stocks.