Trading Penny Stocks Using Technical Analysis

Some people get intimidated if you even mention the phrase “technical analysis” when talking about penny stock trading. Truth be told, there’s really not a whole lot to it, if you resolve to keep things simple. When I have technical analysis in mind, I’m using a more broad definition of the word, so maybe I’m the one with my head in the clouds about it so to speak, because there are some “technical analysis purists” who swear by certain indicators, oscillators, and so forth. Some of these technical indicators include the Relative Strength Index, the Moving Average (whether 30-day, 60-day, or 90-day), the Moving Average Convergence-Divergence (MACD) indicator, the Williams %R ratio, and on and on and on. And I literally mean on and on and on. Some people have so many technical indicators that they monitor with bated breath, that I don’t even know how they ever come to making any kind of trading decision. They observe this moving average, that ratio, this oscillator (I always think of an oscillating fan when I hear that word), that indicator, until in my mind they fall victim to “analysis paralysis”, and the only way they could ever come to a solid trading decision would be if all the planets were in alignment, lightning was striking, AND the Apocalypse all took place simultaneously. While they think they have simplified their trading style due to the fact that they no longer rely on fundamental data (P/E ratio, par value, EBITDA, and so forth), they’re actually still somewhat in bondage to a myriad of figures and data that pretty much keeps them just as confused as if they were making a fundamentals-based decision. In my mind, technical analysis was never meant to be that doggone complicated. When I think of technical analysis, I simply think “chart”. That’s it. All those other squiggly lines and bars and metrics can clutter up your chart and clutter up your mind. You wanna get to the essentials? Use price action and volume. That’s really all you need. I haven’t added one single indicator to my trading analysis, and I’ve done just fine with volume and price action. I’m sure that those other methods may have some merit, but I haven’t really been able to successfully use them, or see any kind of true predictability with them. They seem to work sometimes, and then other times be way off. I know that there are many people who are big fans of William J. O’Neil’s CANSLIM method, and I can honestly say I have never personally tried it, but even on the surface it just seemed like too much to think about for me. Again, in the realm of penny stock trading (as in most other arenas of life as well), the simpler you can keep things, the better off you’ll be.

So what do I mean when I refer to penny stock trading using technical analysis? What do I mean when I refer to chart reading? I mean a clutter-free chart showing you price action over the past 5 years, 1 year, 6 months, 3 months, and then 1 month of a given stock. Each of these charts should have a vertical bar representing daily price action. Each bar represents one day of trading action. I prefer bar charts to line charts or area charts, because I like to see the OHLC (Open, High, Low, and Close) of each trading day. The open price is the small horizontal line jutting out to the left of the bar. The high price is wherever the top of the bar has reached, and the low price is wherever the bottom of the bar has extended. Then, the closing price is the small horizontal line jutting out to the right of the bar. These things say a lot…the chart speaks volumes, once you know how to read it. For instance, if you see a chart where the price has broken above a serious resistance point, and it closes at or near the highest price of the trading day, then you can almost guarantee the next day of trading will take the stock’s price even higher. Momentum is a major factor, and emotionalism is a HUGE factor in price action. If you don’t remember anything else I say about trading penny stocks, please remember this: Emotionalism, fear, and greed determine market prices. Nothing more, nothing less. All this stuff about the company’s promising future, or a possible product rollout, or some kind of restructuring to increase the company’s business effectiveness, all of that is secondary to the actual excitement, emotional hype, fear and greed that actually steer market prices. If you doubt this, I’ll ask you this: Have you not learned from the past yet? Think about the tech/internet stock bubble of the late nineties/early 2000’s. Think about the Dutch tulip bulb bubble way back in the 1600’s. All of these things prove that there comes a point where the rational, logical minds of men no longer function, and pure greed, hype and excitement take over, to the point where the actual value of the company is completely disconnected from the price action of its stock. Back in the late nineties, people were completely convinced that if you had any type of company that was Web-based, no matter how stupid the business model was, you were going to make tons of money because it was based on the Internet. What a dumb idea that was, in retrospect, because we now know that the same skills and principles that you use to succeed in a brick-and-mortar business also apply to any Web-based business.

Wow…looking back on this post, I’m amazed at how I thought it was going to simply discuss penny stock trading using technical analysis, but it turned out to be a discussion about a whole lotta other stuff too. Oh, well, I guess that’s why it’s a blog, not a technical journal. I’m going to sign off from this extra-long post, but stay tuned for more penny stock trading posts to come.

Trading Penny Stocks: Understanding Price Action

As often happens when you trade penny stocks, especially if you are a chartist (meaning you formulate your trading decisions based on the price activity of a stock as registered by its price chart), you do your homework, you study the price chart, you make your trading decision and decide on your entry point, you set your price objective or your exit strategy (and all of this should be done BEFORE you get into the trade), and then you “pull the trigger” and lay the money on the line, so to speak. Wow, what a run-on sentence that was. Anyway, you do all these things, having confidence that you have done your homework and not jumped into anything too rashly. Then, once you’re in the position, you literally just have to wait. And I mean that’s really all you can do. The bottom line is that your decision has been made, you’re in the market now, and you really can’t force the market to do one single thing. You can log into your trading account every 20 minutes and check up on the price of the stock (as I used to do in my earlier trading days), hoping that some miraculous drastic price move will take your stock soaring into the stratosphere, but I’m here to tell you, 99% of the time, that just doesn’t happen. Most of the time the moves are gradual, with a bunch of sputters and staggers and ups and downs in between your entry price and your objective. The price never moves in a perfect straight line up or down. So, while you’re waiting, you will have to endure the general market ups and downs, and you’re going to have to come to grips with the emotional ups and downs that may accompany those price moves. My advice is to not look at the price at all during the trading day. Why? Because nothing is absolute until the closing bell. Sure, you could watch the price of the stock fluctuate during the trading day, and it may do all kinds of wonderful things, and if you’re the mack-daddy astute trader you could capitalize on an intra-day move and exit with a nice profit, but the volatility of the penny stock markets don’t lend to well to day trading, primarily due to the rapid price movements. You may find that your orders won’t get filled in a fast-moving market, especially if you’re using limit orders (which, in my opinion, limit orders are the only ones you should use). I know the temptation will be for you to try and use a market order just so you can get filled more quickly, but lemme tell you again, you will find your exit price being the low of the day if you’re long or the high of the day if you’re short. Speaking of going short, we’ll talk about what that even means in a later post. For the most part, the penny stocks that I normally focus on are priced so low, it wouldn’t do too much good to try and short them. There are benefits and then drawbacks of going short, but again, I’ll have to get to that in a later post; I want to focus (yeah, right) on understanding price action with this post, particularly with the stock I just highlighted (Palatin Technologies—Ticker: PTN).

Now…on to PTN. I had highlighted this stock right before the 4th of July holiday, and if memory serves me correctly, it was trading somewhere around $0.18 per share. Once the holiday passed by, the stock immediately dropped below $0.18, closing consecutively lower on a daily basis, and now as of Friday’s close, we’re sitting at $0.15. This was actually very funny to me, because I mentioned how I was all about this stock, and how I believed it was going to rise, but then the subsequent immediate drop in price seemed to totally contradict what I was saying. This is where you learn patience, and where you learn how the game is played. Let me expound on this a little bit…take a look at PTN’s 2-month daily chart, logging the past 60 days of trading activity:

Again, sorry for the blurry chart...I'm just not technically sophisticated enough to make the resolution much higher. You might want to look up the 2-month chart of PTN at BigCharts.com for better clarity. As you can see, PTN was rolling along for the majority of the month of June with extremely obvious support at $0.20. From the last week of May until the 24th of June, the price did not dip below $0.20 except for only two times, on June 16th and 17th. Even on those two days, it still closed above $0.20. Those two dates notwithstanding, the low of every single day was EXACTLY $0.20 per share, from May 23rd all the way to June 24th. I’m no statistician, but I don’t even know if that’s mathematically probable without some type of price manipulation. So it was very apparent that $0.20 was a price that the public was “used to” seeing PTN stay above, and a price that someone wanted the stock to be “known for” staying above, so to speak. Then, all of a sudden, the last week of June hits, and the stock’s price takes a turn for the worse (if you were long, anyway), closing below $0.20, and subsequently lower after that, to where we are now as of Friday’s close, which was $0.15. This is what’s so interesting: If you look at the volume for these trading days, you’ll see that the amount of shares traded has been relatively low, even though this is the lowest PTN’s price has been in a solid year. There was more of a mass sell-off back in mid-May, when the price was significantly higher than now…more than a million shares were dumped on May 14th, even though that wasn’t the lowest that PTN was gonna go. Now, PTN is at its absolute lowest it’s ever been at $0.15, yet the volume hasn’t even cracked 500,000 shares in any recent trading day. I believe that this is almost proof positive of some type of price manipulation going on behind the scenes. The insiders are quietly snapping up shares and guiding the price lower, gradually scaling it down to discourage the public from jumping in at what I believe to be a very obvious bargain price, so that they can have a good inventory of stock to sell to the public when the time is right. I will continue to stand by my initial suspicions, even though the price may still move lower for the time being.

This is why I posted earlier about having patience while trading penny stocks because you never fully know what time the stock will be “ripe for the picking”, but you have to have the patience to stick it out without letting the price action discourage you. Keep your eyes on PTN…it’s just one of the many stocks you’ll come across that have the right type of price action to look for when you’re buying penny stocks.

Buying Penny Stocks: What to Look For

I’ve been doing some homework to show my readers (if any—LOL) some real-life examples of what to look for when you buy penny stocks. This requires the help of some trading tools that I have with my Ameritrade account; namely the Screener. If you know how to use it, a stock screener can be your best friend. I personally steer clear of all fundamental data when I’m screening stocks, and I sort exclusively by price. I don’t care if the company sells widgets, toilet paper, nanotechnology, drugs, or used squirrel legs (don’t ask)…the chart will tell you everything you need to know. Price action is absolutely king, and there is no substitute for price action as far as determining whether or not to buy a particular penny stock. I love AMEX stocks probably the best, because they’re much more stable than their OTCBB counterparts, although the OTCBB stocks are pretty thrilling to trade. You have to have an “iron stomach” to trade the OTCBB stocks, though, because they’re so ridiculously volatile, and oftentimes their price moves simply don’t make “sense”, especially in the estimation of fundamental analysis. Meanwhile, the insiders are getting over by the truckload, because they truly understand that the markets are just a big casino, with the “house” always having the edge. Although I use the analogy of a casino many times when I talk about the markets, I do NOT mean that you should treat trading like you would treat gambling. The markets are no place for uninformed, money-hungry participants who have a “jackpot” mentality…you will get your goose cooked awful quick that way. I’m talking about the fact that the majority of the profits in the markets are made by those on the inside, not the unwary speculators. If the public really knew how much stock prices are manipulated and controlled by insiders, there would be a riot on Wall Street tomorrow. Unfortunately, the very people they believe they can trust (brokers, advisors, etc.) most of the time are getting paid under the table to tout XYZ stock, or are just simply churning their clients’ accounts with multiple transactions to pad their pockets with commissions. But, I digress.

The reason why I’m posting this is because I wanted to prove that it is possible to catch a stock “in the act” of the accumulation phase, and to provide my readers with a real-life, real-time example of a stock that is bound to rise in the relatively near future. So, I was screening some stocks tonight and I came across Palatin Technologies (PTN), traded on the AMEX. I believe they’re some kind of biotech company, but I’m not sure, and I really don’t care. Once I saw the chart, I was sold. I found them through a screen by price, for stocks trading under 25 cents per share. As of this writing, PTN closed at $0.1835 today (July 1st, 2008). When I pulled up the chart I almost crapped my pants. It is almost ridiculously obvious that this stock is gearing up for a serious move north. Look at the one-year chart of PTN:

Folks, that’s about as picture-perfect as you could ever want a stock chart to be if you’re looking to make money trading penny stocks. Here we have an almost completely horizontal line, with a fairly tight trading range except for a couple of pretty significant moves—one run up in late February and one sell-off in mid-May. The part that I want to call your attention to is the activity that has happened this past month, in June. It’s easier to see what I’m talking about when you look at a three-month chart:

It’s almost ridiculously obvious that the price was being held within a certain trading range for the majority of the month of June. There was a strong support at $0.20, with prices never closing below it for almost the whole month, which all of a sudden became the primary resistance point in the last few days of the month. The price is being gradually scaled down…this is not a panic sell-off by any means. This is a manipulation of the stock’s price to make it appear as though it’s a “dog” when in fact it’s a diamond in the rough. The more discouraging the price action looks to the average speculator, the more opportunity is present. I’m not a “market soothsayer” or anything like that, but I’ve been doing this for years, and I have seen set-ups like this a thousand times over, and I’m telling you right now, PTN is getting primed for a good rise. I don’t believe it’s going to be any time in the very near future, although I could be wrong. I think there will probably be quite a bit more sideways action first before the stock begins to “percolate”. If I’m wrong, I’m wrong, but I’ve seen many, many chart patterns just like this one, and all of them have turned out to be large gainers in the future. All I can really say now is, time will tell.

Well, if you wanted a real-life example, that isn’t me talking from hindsight, but actually showing it to you as it happens, you’ve got it in PTN. I’ll tell you this much…I’m in. I’ll make my purchase more than likely on Monday following the 4th, since I have to wait for the funds to clear my account. I hope that nothing jumps off after the holiday, although markets are prone to do that, because I want to be in the trade before it does! At any rate, this post is really long, so I’m going to close it out now…just keep in mind that if you’re looking to buy penny stocks, look for stocks with charts like PTN—they’ll definitely do the trick.