The Basics of Penny Stock Investing
I want to tell you is most penny stocks are scams. I never invest in a penny stock, I trade them for short term profits. The chances of you finding the next Microsoft is slim to none. These companies don’t start out on the OTCBB or Pink Sheets and then uplist. They have massive IPOs and have private placement provided by venture capitalists. This doesn’t mean that you can’t get rich. You just need to know the right way of going about it.
In most cases penny stock investing is a great way to lose all of your money. These microcap stocks are not like the big boards, which have a tendency to appreciate over time. Penny stocks are rarely based on fundamentals. The only fundamentals I follow are what is the current authorized share count, outstanding shares, float and is the transfer agent gagged.
Fundamentals + Technicals + Level 2 + Timing = Money
The fundamentals of penny stocks really don’t matter, in fact they are mostly made up! In my experience knowing a penny stock company’s beta or price to earnings ratio is pretty much useless. While it is helpful with NYSE and NASD stocks to assess risk, many companies and promotions try to skew these numbers to create a good story.
Once a company has started to create a story, they get all of the so called fundamental traders hooked and they start buying up shares. These people will hold a stock forever and will be the promotion’s first bagholders. This is why long-term penny stock investing is not a good idea. They will still hold the stock after it has run 1000% and claim that there is more to come on various public forums. Sadly, the fundamentalists and the free newsletter members will watch the stock fall back to earth while the technical traders and momentum traders sell.
The technical trader is someone who cares very little about fundamentals. This person is a trader, not a penny stock investor. If the chart has a certain pattern – like a double bottom, descending triangle or ascending triangle – they will join the party. They will buy the stock and then create a chart that shows a potential price breakout based on technical analysis. Then they will go and post it all over public stock trading forums and tell their friends about it. If they have good friends, these friends will also buy and will make the chart breakout, thus creating a self-fulfilling prophecy.
Then the company, especially if there is a promotion running, will release a press release telling about their company. This will suck in more lemmings as they don’t want to miss the run. Unfortunately in many cases, the promotion fails at this point as insiders get nervous and begin to dilute shares. So all of these trading newbies begin buying up shares, but the price continues to fall. This can be seen on Level 2 and the momentum and technical traders that played the chart and the news begin to sell.
If the promotion is successful after this first leg, there is usually a cooling period of one to two weeks where a new base is established. This is a good time for flipping as the lemmings keep buying claiming that the shares are cheap. At this point in the promotion there will be another press release and a second leg will occur – or else the promotion will fail and the game is over. This process can continue for several legs and only the insiders and those close to the inside know when the promotion is over.
The truth is you can’t trust anyone. When you join a public forum, you’ll start to build a network and these people will try to get you into their trades. They will tell you what you want to hear, but remember – it’s a game. Don’t believe the hype. They might even be selling their shares to you. These are several reasons why you should avoid long term penny stock investing. Instead join a few newsletters and learn how to trade the promo.
Here is a great example of a penny stock that people invested in. Many people went long in this company because they had a deal with Lowe’s and the Home Depot. People had actually been to the company to see their facility. The CEO of the company also appeared to be transparent, and the share structure was reasonable. Fundamentally, this penny stock was sound, yet, it was crushed by market maker shorting. Anyone who went long and invested in this penny stock lost a lot of money. This is generally why it is better to be a momentum trader and flip penny stocks that are mentioned on stock alerts websites and newsletters.
There are a number of penny stock newsletters that you can join. Be sure to create a fake e-mail account to handle them. You will quickly discover that many of the penny stock newsletters are run by the same promoters. You will also notice that these newsletters release their alerts at different stages of the promotion to different e-mail groups. They rotate who gets the alert first, so that they keep their lists balanced and happy. You need to be on many lists in order to get the penny stock pick first before the rest of the crowd gets it. That way you have the best chance of profiting.