First things first, let’s be clear on what penny stocks are.
While they’re called “penny”, these stocks aren’t all priced at just one cent. The term covers stocks that are trading at under $5 per share. So that could be anywhere from $0.5 per share all the way up to $4.99.
Now that we’ve gotten the intro out of the way, let’s dive into the meat of the matter.
How Penny Stocks Work — And Why Should You Pay Attention to Them?
Unlike long-term investing where folks find a company they believe in, then buy and hold its stock for years…with penny stock trading, the exact opposite is the case.
As you know by now, they’re small size — and they typically have two things in common;
- Most of them eventually fail
- News catalysts have a huge impact on these stocks (which can lead to massive spikes).
The first point might sound like bad news, but it’s the harsh reality.
But the good news is that for traders, it’s easy to learn to trade penny stocks faster than those popular large-cap stocks.
If you’re starting out, don’t get your hopes up, though.
The returns you’ll get might initially be small. But on the bright side, your losses won’t be heavy either.
Penny stocks offer traders the opportunity to start trading with a small account, learn quickly, and scale up over time.
Penny stocks are mostly listed on OTC (Over-the-counter) exchanges, but you can also find them on popular markets like the NYSE or Nasdaq.
Unlike those listed on the bigger exchanges, the OTC penny stocks are not strictly regulated (for example, they’re not required to make the same SEC filings as their bigger counterparts).
Since they’re inexpensive, investors often buy large quantities of shares without spending much money. This tendency makes the penny stock market volatile.
This brings us to the question…
Are Penny Stocks Worth Trading in 2022?
I’ll be straight with you — I’m a penny stock junkie.
Most people think they’re sketchy…
After all, they’re small, unstable, and barely-known companies. Some of them might be new and in an up-and-coming sector or even worse, be at the verge of dying off.
And because of their volatile nature, some of these stocks are vulnerable to potential “manipulation” by stock promoters and pump and dump schemes.
But the truth is, they helped me build the foundation that has shaped me into the trader I am today.
So to answer the question — are they worth it?
Yes, I strongly believe so.
I’m still trading them heavily in 2022 and teaching people how to do the same too.
My goal is to take advantage of the short-term, volatile moves with solid risk management. Which means I’m usually in and out in a few minutes.
But it’s not all bread and butter. Like everything else…
There Are Risks To Trading Penny Stocks!
When it comes to Penny stocks, every trader (both new and old) should tattoo these points at the back of their minds:
- You must be willing to research, learn, and unlearn.
- You have to learn to think for yourself
- Understand that it’s not a get rich quick scheme
- You must develop strong discipline
- You must have a good trading plan and stick to it
Why? Because they are highly risky.
As I mentioned earlier, most of them fail within a few years, are very volatile…and because they’re not regulated as much as large-cap stocks, they can easily be manipulated.
You see, too many people jump into trading with the wrong mindset.
And most of the time, they end up making these 5 dangerous mistakes (I also talk about how you can easily avoid them).
That, in my opinion, is failing before starting.
If you want to increase your chances of success, you should aim to educate yourself (In my previous post, I talked about the 2 trading psychology books I highly recommend. If you missed it, click here to see the list.)…and most importantly, learn how to trade in the safest way possible.
Which brings me to…
How to Minimize Risk When Trading Penny Stocks
From my 10+ years of experience, what makes or breaks a trader – is the way they handle risk.
If you want to stay in this trading game for the long run, I suggest you develop a solid risk management strategy.
Personally, I’ve spent years fine-tuning these risk management principles I strongly follow. Click here to read how I handle risks.
The bottom line is, to trade penny stocks successfully, you need to set clear goals and boundaries based on your risk tolerance.
My Favorite Trading Pattern — Fish-Hook
I like to explain this pattern with a knife cut analogy.
Think of it as a fresh cut on your finger — at the start there’s profuse bleeding.
Overreaction. You get caught off-guard and start panicking.
Shortly after…the bleeding stops, you put on a bandage, and things start getting better.
The Fish-Hook pattern occurs when a large wave of emotional panic selling drives the stock very far into the oversold territory.
Again, emotion is what drives the price action here.
Eventually, sellers dry up, at which point buyers and short covers get to work allowing for a quick upside.
Please note: this works best if there’s a 50% drop in the stock in under one month.
Here’s a chart with a clear example of this pattern:
It requires a market that has horrible news. You just have to wait for the panic (bleeding) to subside and then it gets better.
The up move may only be a fraction of the preceding down move, yet the move may be sizable if entered correctly.
You can see, the anticipated move (marked with blue) looks quite literally like a Fish Hook. A patient and timed entry can give you a very clean and limited risk.
What you need before you start trading penny stocks
To sum it up, here are some things you need to figure out before you start trading penny stocks and stay ahead of the majority of traders out there.
Fine-tuning the Trading Strategy
Penny stocks tend to move very fast.
The worst thing I can do as a trader is putting my money on a stock when I’m not sure what to do.
That’s why it’s important that I enter the market with a solid strategy and be ready to adapt when things suddenly change.
Get In The Right Mindset
Like most things in life, trading penny stocks is not a walk in the park. It can get tough and requires a specific mindset when it comes to failure.
In trading, making mistakes is unavoidable. So you need to learn to accept your failures and learn from them — rather than try to be correct 100% of the time.
Educate yourself and be willing to adapt
There are two key steps to getting better as a trader — the first is putting your money and skills to the test, then the second is learning and sharpening those skills.
Beyond just “spotting patterns”, you need to be flexible to adapt to the market as it changes.
There’s no point in trading without keeping track of where your money is going.
Two of the most important things you should be keeping track of is;
A penny stocks watchlist — this is a list of your best-performing stocks. Be sure to keep an eye on it and delete the poor performers.
A trading journal. Record every trade you make with observations and results. It will help you avoid making the same mistake twice.