Investments

How to Trade Penny Stocks: Six Things To Keep In Mind

The allure to trade penny stocks is one that cannot be explained. People are increasingly turning to penny stocks given the fortunes always touted. As their popularity has grown over the years, so have some people made a fortune trading them as others saw their dreams of becoming millionaires dashed at a click of a button.

So what are Penny Stocks?

According to the Securities Exchange Commission, Penny stocks are stocks of companies that trade under $5 a share. However, in the equities market, investors categorize stocks trading under $1 a share as penny stocks.

Penny stocks are mostly of companies that are relatively new into the game depicted by small market capitalization. In addition, they are mostly of companies that are yet to establish a track record or successful business. In most cases, they are stocks of companies just getting started.

Why is penny Stocks Popular?

Penny stocks have become increasingly popular as the urge to gain exposure in the equity market soars. More and more people are buying and selling penny stocks because they are relatively cheap compared to stocks of well-established companies.

The fact that they are cheap means investors don’t need tons of cash to buy and sell them as is the case with stocks of established companies. Likewise, such stocks are extremely volatile, making it possible for traders to make huge profits over a short period as compared to large-cap stocks.

Penny stocks price can increase by more than 100% in just one day. While the extreme levels of price fluctuation make it possible to generate significant profits over a short period, it is possible to lose everything on being on the opposite side of price fluctuations.

While trading penny stocks is a high-risk game, it is possible to avoid catastrophic losses and be on the pathway to making a fortune at the back of minimal losses.

Tips to Trading Penny stocks

Trade Penny Stocks With High Volume

Given that trading penny stocks is a high-risk game, the idea is to enter and exit trades as quickly as possible. Conversely, it is important to only trade stocks with huge volumes as they make it easy to enter and exit trades with ease. Likewise, it is important to know the amount of shares traded and the dollar volume.

Successful penny stock traders trade penny stocks priced at more than 50 cents and trading more than 100,000 shares a day. High trading volume makes it possible to enter and exit positions at desired price points.

Ignore success stories

Never trade a penny stock just because it is touted on emails or social media networks as being a high growth stock with tremendous potential. Penny stocks are mostly of companies with zero track records thus cannot be trusted. In this case, it is important to base trading decisions on underlying fundamentals such as earning results or competitiveness in a given sector.

Buy the Best Bunch

Just because penny stocks trading under $5 does not mean there are no good options out there. The selection of penny stocks to trade should be up there if one is to make a fortune. Likewise, gurus advise on trading penny stocks that have good earnings reports with solid prospects of a potential break out.

However, it requires a lot of research to find penny stocks that are breaking out of 52-week highs at the back of solid fundamentals such as earnings beat or backed with a solid pipeline of product offerings.

Disregard Tips

One of the biggest mistakes that most penny stock traders make is reading newsletters or tips Unknown to most people is that the newsletters are only there to pump up the price so that whales can enter short positions.

Most newsletters don’t tell the truth as they are only there to pump up the stock. Once the dumb money is in the market, the gurus enter short positions.

Sell Quickly

A stock is a penny for a reason, it is high risk. Unlike when dealing with large or mid-cap stocks, waiting for 100% return would amount to suicide. Trading penny stocks is all about entering and exiting as quickly as possible as things can change in a split second.

Always remember that a penny stock can rise by as much as 30% and then plummet by as much as 50%. In this case, it is wrong to aim 1,000% returns considering that most penny stocks are normally pumped.

A Stop Loss is a Must

Given the extreme levels of volatility associated with penny stocks, trading with a stop place is crucial. Stop loss helps stop the bleeding before too much damage is done on a portfolio. The stop loss should also consider the bid-to-ask spreads, which can be as much as 10%.

In addition to using a stop loss, it is important to be careful with position sizing. Refrain from the urge of going in big. The idea is not to trade more than 10% of the stock’s daily volume.

Ruchi Gupta

Ruchi Gupta covers various beats from finance to technology and from lifestyle to hobbies. She has an MBA in Finance. Ruchi enjoys writing on celebrities and political news. She likes traveling and exploring places.

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