5 Tips For Investing In Penny Stocks
Investing in penny stocks provides traders with the opportunity to dramatically increase their profits, however, it also provides an equal opportunity to lose your trading capital quickly. These 5 tips will help you lower the risk of one of the riskiest investment vehicles.
1. Penny Stocks are a penny for a reason. While we all dream about making an investment in the following Microsoft or the following Home Depot, the reality is, the chances of you finding that once in ten years success story are thin. These firms are either starting and bought a shell company as it was less expensive than an IPO, or they don't have a business outline animating enough to explain investment banker's money for an IPO. This does not make them a poor investment, nonetheless it should make you be pragmatic about the type of company that you're making an investment in.
2. Trading Volumes Look for a consistent high volume of shares being traded. Looking at the average volume can be misleading. If ABC trades 1 million shares today, and doesn't trade for the rest of the week, the daily average will appear to be 200 000 shares. In order to get in and out at an acceptable rate of return, you need consistent volume. Also look at the number of trades per day. Is it 1 insider selling or buying? Liquidity should be the first thing to look at. If there is no volume, you will end up holding "dead money", where the only way of selling shares is to dump at the bid, which will put more selling pressure, resulting in an even lower sell price.
3. Does the company know how to make a profit? While its not unusual to see a start up company run at a loss, its important to look at why they are losing money. Is it manageable? Will they have to seek further financing (resulting in dilution of your shares) or will they have to seek a joint partnership that favors the other company?
If your company knows how to make a profit, the company can use that money to grow their business, which increases shareholder value. You have to do some research to find these companies, but when you do, you lower the risk of a loss of your capital, and increase the odds of a much higher return.
4. Have an exit and entry plan - and stick to it. Penny stocks are volitile. They may quickly move up, and move down just as fast. Remember, if you purchase a stock at $0.10 and sell it at $0.12, that represents a 20% return on your investment. A two cent decline leaves you with a twenty percent loss. Many stocks trade in this range on a regular basis. If your investment funds is $10 000, a twenty p.c. loss is a $2000 loss. Do this five times and you are out of cash. Keep your stops close. If you get stopped out, move on to the subsequent opportunity. The market is letting you know something, and whether you need to fess up or not, its customarily best to listen.
If your plan was to sell at $0.12 and it jumps to $0.13, either take the 30% gain, or better still, place your stop at $0.12. Lock in your profits while not capping the upside potential.
5. How did you find out about the stock? Most people find out about penny stocks through a mailing list. There are many excellent penny stock newsletters, however, there are just as many who are pumping and dumping. They, along with insiders, will load up on shares, then begin to pump the company to unsuspecting newsletter subscribers. These subscribers buy while insiders are selling. Guess who wins here.
Not all newsletters are bad. Having worked in the business for the last eight years, I've seen my share of unfair firms and promoters. Some are paid in shares, occasionally in proscribed shares ( a contract whereby the shares can't be sold for a destined period ), others in readies.
How to spot the good companies from the bad? Simply subscribe, and track the investments. Was there a legitimate opportunity to make money? Do they have a track record of providing subscribers with great opportunities? You'll start to notice quickly if you have subscribed to a good newsletter or not.
One other tip I might offer to you isn't to invest more than twenty percent of your total portfolio in penny stocks. You are investing to earn income and preserve capital to battle another battle. If you put far too much of your capital in jeopardy, you increase the likelihood of losing your capital. If that twenty percent grows, you could have more than needed money to make a good rate of return. Penny stocks are dangerous to start with, why put your cash more in peril?
Article Source: FxTradingStock.com
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by: Ferdinand Lawrence
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Date: Mon, 7 Feb 2011
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