Identifying Penny Stocks to Invest In

On some level I guess you can call this an “instructional” post…I figured that I would take you guys through the actual process that I use when I’m trying to identify penny stocks to invest in. I kept thinking that if I could just explain what I do from A to Z, from the time I decide that I want to check out what’s cooking with the penny stock markets to the time that I have made a decision to purchase a stock, it would help someone out there identify some steps in the process that they could possibly use to do the same thing. I keep thinking, though, that the reason for wanting to trade penny stocks is way more important than the actual stocks you pick. What mental approach are you taking? What positional approach are you taking? Are you thinking that this one stock is going to make you a multi-millionaire? Are you going to “put it all on the line” and risk all of your trading capital on this one trade? If any of these questions ring true for you, you may want to reconsider your motives and reexamine your plan before committing your money to any penny stock. And, once you put the position on, what type of plan do you have in place for position management? Do you have a percentage increase target, or a dollar-amount target? Do you have an “uncle point” where you will bail out of the trade if it goes sour? If none of these things are in place, and you’re just kinda flying by the seat of your pants, go ahead and kiss your money goodbye. Wishing and hoping for a lucky break will not help you whatsoever in the penny stock markets. You better be ready—this is some ninja style, Navy-SEAL-style trading stuff, for real. You better have your head in the game, and you better have a plan. Don’t do things based on whims or fancies. Don’t “do random”. Do things once you have done all of the proper research, and you are thoroughly confident in your position and approach before taking it on. But anyway, let me take you through the basic “routine” I go through when I’m trading penny stocks. The first thing I do is log into my TD Ameritrade account. While I’m there, if you don’t yet have an online brokerage, I don’t know what you’re waiting on—the commissions are much cheaper and you really don’t need the “advice” of a broker who will then charge you anywhere from $25.00 up to $100.00 a pop. I encourage you to learn how to become a self-directed trader, and that way you’re only using your brokerage account to place trades, and not to get some kind of stock advice. Let me tell you, most brokers are more interested in just telling you to get in and out of stocks, because that’s how they make their money. It’s no different than getting a commission for selling a product, which is exactly what they’re doing. I’m not against brokers by any means, but I just don’t think you need one if you learn how to read penny stock charts, understand price action, and develop a very basic sense of what a particular stock is doing, and how you can best position yourself to capitalize on the price movements of that stock.

So anyway, I log into my TD Ameritrade account (I’ve had it since they were called Datek Online) and I go into the trading tools area so that I can find the stock screener tool. This will be your best friend after a while. I then go through the process of actually creating the screen, and the only criteria I give it is price and volume. I normally look for stocks trading at $0.10 and above, and with volume of at least 100,000 shares on average. This way, it weeds out most of the illiquid stocks, and although most of the results returned will be OTCBB stocks, if I’m feeling ultra-cool I’ll filter by exchange as well to only include NASDAQ and AMEX stocks (don’t even bother trying to find NYSE stocks trading at $0.10 per share). Lately in my trading, I’ve been leaving the bulletin board penny stocks alone, but it’s not because they’re no longer viable; it’s just that I’ve simply had more success with the NASDAQ and AMEX stocks. Why that is, I simply don’t know, but I’m just sharing my personal preference. So then, I screen based on the price and volume of the stocks, and this is where the real homework begins. There’s a cool feature with the TD Ameritrade screener to where you can simply mouse over any stock symbol on the list and a little chart of the stock will pop up—talk about a time saver! I remember back in the day I would do stock screeners and then print off the list of stocks, and then go one-by-one, entering the symbols into the search box on BigCharts.com. Man, that was tedious. Now, at a glance I can see a snapshot of the stock’s chart just by mousing over it. Thank God for technology! As I’ve said before, you can tell what to look for in a penny stock in a literal second if you have looked at enough price charts. So what is it that I’m looking for? If you’ve read any of my previous posts, you’ll know that it’s the horizontal channel formation I’m looking for—otherwise known as the “narrow, sideways channel”, which simply looks like a relatively flat horizontal line of price activity. The bars should not be wild, with huge intra-day price swings or anything, but I prefer rather that the trading range be tight—no more than 2% to 5% fluctuations in the overall price of the stock within one trading day. I say those numbers cautiously, because there are times when I will override that if the overall chart looks solid and there’s been a long period of accumulation. Remember, the sideways channel is an accumulation pattern, and it’s simply laying a foundation for a future move. Always keep in mind the words of Ted Warren—“There’s no greater proof that a stock will rise than when it acts as if it can’t.” That’s some serious wisdom, my friends. In Ted’s day, he would go off of multi-year accumulation patterns, but in the world of penny stocks, an accumulation pattern of even a one-month duration can produce great returns (not always, but it can). I typically try to find penny stocks that have been in this accumulation pattern for a minimum of two solid months. What’s even better is if they have accumulation at one price level, then have a minor upswing in price, and then begin accumulating again at a higher level, maybe at a point of previous resistance. On the chart, it will look like a staircase going up, you know? That’s how the FSNM penny stock looked back in April when I spotted it, so I knew that a strong move up was imminent. Of all the chart patterns I can think of, none have proven to be more reliable (in my experience, anyway) than the stair-step accumulation pattern. So once I have identified the stock with the strongest pattern, I will determine what my position size will be, how much capital I want to risk, and what will be the point that I bail out if the trade goes bad. Once these things are determined, I place my order (and remember, I believe in limit orders on penny stocks exclusively), and usually if I set it right, it will get filled that day, or maybe the following day. Market orders are a sin in my mind. But anyway, once I have put the position on, I just leave it be. Nowadays I can pretty much “eyeball” how high I believe it will go, and I have a profit target in mind (normally 100% above the price of the stock right before the breakout), so I monitor the stock on a daily basis (but not a nervous-twitching hourly basis), and once it pops, I place my exit order (sometimes I do this beforehand, but it all depends), and get the heck out of dodge, hopefully with a good profit. Once this is done, I simply lather, rinse, and repeat. Again I say, there are golden opportunities every single day in the penny stock markets, and you can always find potentially profitable penny stocks to invest in with enough research and homework. Well, I have made this post WAY too long, so I’m getting out of here. The only reason I made it this long is that I’m currently about 30,000 feet in the air, coming back home from a trip to NYC, banging away on my laptop, and I really don’t have anywhere else to go right now (LOL). Happy trading!