So, you’ve decided to invest in penny stocks. Or at least have considered the possibility of doing it. Whatever is the case, I’ll be here to show you all what penny stocks are about, what you can expect and should not expect and finish off with 10 important rules that you need to consider and know before you dip your toes in the stock investing waters. So let’s start off with the basics so we’re all clear here.
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Penny Stocks – What Exactly are They?
A definition of penny stocks as given by investopedia is “[stocks that] typically trade at a relatively low price and have a small market capitalization, usually outside of the major market exchanges”. While originally, the cutoff point for most of these penny stocks was 1$, accounting for the inflation it makes more of a sense to use $5 instead. Since $5 is still considered a relatively low price and those sub $5 stocks have small market capitalization, this fit in nicely with the definition.
Having low price per share is a double edged sword. On one hand, if the stocks increase a seemingly inconsequential 15 cents, this could mean that all of your profit in it doubled if the starting price per share was 15 cents. So if you’re lucky enough, you can literally double, triple and even quadruple your money by a couple of investments.
But, as you’ve learned going through life, there is no such thing as easy money. In order for a stock to go from $0.15 to $0.30, the corporation has to literally double. Yeah, not such an easy and common thing, is it?
These stocks are also highly volatile. Even though stocks themselves are some of the most volatile investments themselves as opposed to bonds or mutual funds, penny stocks are like their most radical and unstable version. This can also mean that you can easily lose 90% of your investment in a bad stock almost overnight. Yeah, investing in penny stocks doesn’t seem as easy anymore, is it?
Rule 1: Know What You’re Getting Yourself Into
A lot of people fail to realize exactly the main benefit of using penny stocks. A typical penny stock strategy is not designed for long term saving by any stretch of imagination. They are most useful if you want to risk a little bit and earn quick money. This is not something that you put money in, forget about, and then collect your earnings from.
Even the best of the best, the top 1% of penny stock players, the ones making the big plays, are mostly spending all their time monitoring their stocks to adjust them at a moment’s notice. Speed and analytical ability are the main components here, and one without the other will heavily impede with your ability to earn good money.
Rule #2: You Don’t Necessarily Need a Broker
Another thing that many people don’t know is that you can do the trades of penny stocks without any brokers whatsoever. This means you can potentially save yourself some broker fees, but at the expense of the fact that it does make things slightly more risky for you.
They way to purchase stocks without a broker is to use an online service instead. E-Trade and and TD Ameritrade are 2 solid sites that you should check out if you’re considering buying penny stocks without a broker. When you setup your account at these sites, you can put in a small investment and purchase shares as well as pay off fees using that balance.
Rule #3: Use Limit Orders Instead of Market Orders
One of the benefits of limit orders as opposed to market orders is that the limit orders allow you to maintain control of the price of the transactions that you take it in opposition to the market orders. This can come in really beneficial to you when you are focusing on stock investing since the market orders can sometimes cause you to purchase shares at either a really inflated price or sell shares at a low price, both choices that can hurt your income.
Watch this video to better understand the difference between limit and market orders
Rule #4: Watch Out for Pump-and-Dump Scam
Many of you must have heard already of the infamous pump-and-dump strategy and some of you might even know exactly what it does. For those who don’t know, pump-and-dump is a strategy employed by malicious and manipulative stock buyers. If done successfully, the manipulative stock buyers reap in big profit while the other people end up being ripped off. As you can guess, this is not a good place to find yourself in.
The basic premise of pump-and-dump is simple. The malicious stock investor buys a lot of a specific stock, in most cases a penny stock. Since penny stocks cost so little, the investor can purchase relatively small amounts in relation to the bigger shares such as those owned by Apple or Microsoft, in order to increase the stock prices. $10,000 will get you way more of the $0.37 stock as opposed to a $300 stock.
The increase, as witnessed by others, mimics an upward trend as the people watching didn’t know it was just 1 investor who purchased all those shares. In addition to that, the investor will bait others into purchasing what looks like a hot stock. This is why you should be wary when you hear terms like “hot” or “secret” and places like newsletters and emails.
When loads of people buy that stock, the stock price increases further. And just as it starts to hit its peak, the malicious investor will immediately sell his shares. As a result of that, the stock starts to go down, and all the people who have unknowingly invested in it, have lost money.
Rule #5: Don’t Skip Out on Turnaround Companies
Don't ignore turnaround companies – they could potentially vastly increase your profits
Turnaround companies are companies that went bankrupt some time ago but are now restructuring. Since the company went bankrupt, their shares have plummeted and most likely lost most of their value. But since they are undergoing restructuring, this means that their shares can potentially go up significantly in the near future.
The more successful the company becomes, the more their shares will go up. So if you’ve invested $1000 in a company that just started at 10 cents per share, and now have went up to an insignificant 3 dollars, you just increased your investment by 3000%. Pretty good if you ask me.
Rule #6: You Can Never Know Too Much About Penny Stocks
The world is constantly changing. Every now and again something new gets discovered by researchers, scientists, economists and many other professions. Penny stock investors are no exception. Knowledge is power, and the more power you have in the penny stock game the more you will earn in the long run. Always seek out and make use of all penny stock tips that you find. Never think that you know all that you need to when it comes to investing.
However, this doesn’t mean that you need to hold off on investing until you’ve learned everything as experience is one of the best methods of learning. Plus the journey of a thousand miles begins with a single step. Or in your case, the journey of a million dollars begins with a single penny.
Hard, consistent work and constant learning is what separates the top 1% from the rest. It separates those who earn dollars and those who earn 6 figures.
Rule #7: Stick to Simple Analysis Techniques
As you start to grasp the basics of investing in penny stocks 101, you may be able to use more in-depth, complex and convoluted technical analysis methods in order to base your investments on. But as a beginner, it’s way easier to simply focus on 2 things: support levels and resistance levels.
Resistance levels can be simply defined as the peak price that a stock goes up until it starts to go down. This creates fear at the peak which is commonly known as the resistance. Since the stock doesn’t usually go up more than the resistance level, investors tend logically to hold off on buying any more of it. Support levels, on the other hand are the opposite in that they represent the lowest levels as to which the stock will go down to before it bounces back up.
Something useful that you can consider is that the stronger the specificity of the support level the stronger the psychological support becomes. So if a stock usually has a support level around $2.50 ± 0.10 it’s much more stronger than a stock that has a support level of $3.00 ± 0.89.
Now that you have sufficiently grasped the meaning of both of those terms, all you need to do next is find those trends in the price chart (I personally recommend a 6 month range at a minimum) and use the supplied daily data to find those levels. Once you find the support and resistance levels, buy shares when they are close to support and are rising and sell those shares before resistance occurs.
Rule #8: Use a Fundamental Stock Screener
Now, in order for you to invest in penny stocks you need to be able to see all of the available ones to sort through the ones that are worth pursuing and and the ones which are not. But where can you go to look to find those kinds of lists?
Some people have a tendency to simply go on message boards and random forums in hopes of finding some good companies that way. Others might even just aimlessly go from one stock to another stock in hopes of finding a winning stock. But myself, I don’t really like to waste my time, as I know neither do you. This is where fundamental stock screeners come into play. A fundamental stock screener is an automated screening device that can help you find some of the best penny stocks.
Bing Finance is a pretty popular option as it currently has a feature that enables it to filter through companies which are currently not listed on major exchanges. Another great option that you can possibly consider is the Over the Counter Markets which, as of now (August 2016), contains over 9,900 securities in which penny stocks comprise a sizable amount of. I don't really have any preference of one over the other, you are free to try them both and see which one you like the best. You can even use both at the same time if you so desire.
Most of the online stock screeners allow you to filter your stocks in a multitude of ways including: cash flows, growth, revenue, dividends, earnings and intrinsic value. Needless to say, you should be able to find what you need granted you know exactly what you are looking for.
Rule #9: Always Do Your Own Research
I don’t care who is giving you stock advice, you should always do some research yourself before proceeding with penny stock investing. There are many people out there who masquerade as stock professionals who in reality just want to scam you or are supporting their friends stock. Sometimes they might not even know what they are talking about and can cause you to lose your money at worst and your time at best. So keep an eye out at all times.
Rule #10: Don’t Give Up!
Investing is a hard game to play. It has a very steep learning curve before you can make any sizeable profit consistently, and a lot of people start off by losing money. But such is the way that most skills are acquired. You can’t learn without failing. I am willing to bet that even Warren Buffet, the master of stocks, has made stupid errors back when he first started investing. All that a failure means is that you have learned something new.
Investing isn’t an easy side job that you do to get money. You can work at McDonald’s if you are looking for that. This is something that will take time and consistent devotion to truly reap its benefits. Think about the best skill that you currently possess – did you immediately know how to do it or did you go through a series of trials and errors to get to where you are? Heck, even walking was a pain when you first started. You were on the floor crawling, tripping and falling before you could finally walk. And look at how far you’ve come, you can walk so far without falling. Just messing with you, but you get my point. Don’t give up!
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And now, armed with this knowledge, you are free to pursue penny stock investing. Hopefully you’ll use some, if not all, of these rules as they will only make your investing life easier. Andn life is already hard enough – no need to make anything harder than it needs to be.