Penny Stock Tip: Mentally Long Swing Trader Strategy

If you have been trading penny stocks for awhile, you probably know that most of them are junk companies. Manipulation, poor business practice, falsified information, and other negativity surrounds the world of penny stocks. That being said, every now and then you can find a gem; a company that defies penny stock stereotypes and positions itself for future success. It can be very easy to get excited about a company like this, especially when you catch on to it before others. The thought of multi-hundred/thousand percent gains can be rather enticing. This feeling of excitement can be further stimulated when you read message boards where other people share your disposition to the stock and start building hype. There’s nothing wrong with that. These are all different elements that make the penny stock markets operate the way they do. But, you don’t want to be a pawn in the penny stock world, do you? If you want to have an advantage, you need to stop thinking like the masses and start seeing what others don’t.

Here are a few of the trades I have made using this strategy:

 

So many people love to say that they are long on a stock. “Long and strong man, yeah!” These traders will hold a stock for huge periods of time (at least they say so) because they are convinced that they found the next Microsoft on the ground floor. Don’t be naive. Most penny stocks fail. You need to take advantage of the price action if you want to maximize your profits.

You need to remember these things:

1. You are not indebted to the company. You don’t need to be a “loyal” shareholder. Loyalty is a good trait in the real world, however, it has no place in the world of penny stocks because there is no reciprocation of that loyalty. The company you invest in won’t pay your bills if you lose all of your money in their stock so don’t become a bagholder. Sure, you can brag about how you’ve been holding a stock for over a year, but no one really cares.

2. All stocks fluctuate, but penny stocks are more volatile. It’s important to keep in mind that all stocks go through cycles. Some days they will be up, others they will be down. The difference between penny stocks and big board stocks is that penny stocks are much more volatile. While a big board stock may trade in a +/- 10% range, a penny stock may be up 100% 1 day and down 50% the next. Your investments should not go up and down like a roller coaster because your portfolio will never have any stability. You need to take advantage of a stock’s big moves to keep your investment safe. This doesn’t mean that you don’t believe in the company you are investing in. It means you believe in the company, but recognize that the stock’s movement is not fully in your control or the company’s control. You are accounting for external conditions that affect your stock and taking advantage of them instead of allowing them to sabotage your investment. Some people like to call out “flippers” who constantly buy a stock when it is low and sell it when it is high, but these traders are the ones that keep the stock active. Think about it, if there weren’t flippers, there would just be a bunch of longs holding shares and the stock wouldn’t have any volume. True longs lock up the float so they have their place as well. There are pros and cons to each trading style, but I much prefer swing trading stocks (flipping) to holding for a long period of time and exposing myself to unnecessary risk.

3. The company doesn’t matter; the price action does. Let’s just say you found a company that has the potential to be “the next Microsoft.” Good for you. However, this company is only as valuable as the market perceives it to be. Yesterday (May 15, 2014) a company called MYEC (used in an upcoming example) released some impressive financials. They had a net profit of $1.3 million for the first quarter of 2014 and they are growing at a rapid pace. This is very rare in the world of penny stocks. You’d think the price would have skyrocketed on that news, right? Wrong. The price of the stock actually dropped around 10% following the financials. Clearly, the market didn’t care how “great” the company is. In order to take a holistic approach to your investing, you need to understand both the company and the people trading it. After all, traders/investors are the ones pushing the price up and down.

4. Understand the terrain. Know who you are trading with. Everyone has different trading styles and you need to think about how other people are going to be trading a stock. If you’re long on a stock, you need to understand that there are also scalp traders, swing traders, shorts, etc. Different traders have different styles. So, while someone who is long on a stock may hold it as it goes up a few hundred percent, a swing trader may be happy with quick 50% gains. The assumption that everyone will go long on a stock if the company is good and the price is rising is flawed logic. Not everyone is trying to invest in companies. Understanding this helps you understand price action. If a stock runs 100% in a few days, you can expect that there will be sellers entering the market soon. Using my strategy, you would sell during the run up and buy back when the price dips. You believe in the company but you also understand how the stock trends and, therefore, don’t fall victim to its volatility.

To better understand my strategy, let’s use an example:

MYEC is a prime stock to use as an example to convey this strategy. I first bought into the stock at .0025 because I did some fundamental analysis and actually liked the company. Mentally, I was long on the stock. I believed it had great potential. That being said, I didn’t hold all the way from .0025. I pulled swing trades along the way to limit my risk. This can limit your profit as well, but its important to understand that not all stocks play out the way you want them to. I would sooner take smaller profits than I would expose myself to big potential losses.

Let’s look at longs vs. flippers for a three month time period, assuming all orders were 100,000 shares.

The Long Strategy

Buy 100,000 shares at .0042 on February 18, 2014 for a cost of $420

As of today, May 16, 2014, those shares would be worth $3940 for an unrealized profit of $3520.

Keep in mind, that this profit can go up or down at any time. On March 28, 2014, those same shares were valued at $8200. By the end of the year, the shares may be valued at $20,000+ if the stock goes up considerably, or back to $420 if the stock drops back down. There is a lot of uncertainty in this method because you do not know what catalysts will approach during the year. You can definitely make huge gains, but you can also lose a lot of money.

Now, look at a “mentally long” swing trader standpoint on the same 3-month period.

The “Mentally Long” Swing Trader Strategy

A swing trader must be able to spot trends, especially tops and bottoms. Rarely will a swing trader be able to time tops and bottoms perfectly, but you can get close. For this example, I used realistic numbers that were not exact tops and bottoms. They were prices that the stock traded at for a few days, making them feasible entries or exits.

Buy 100,000 shares at .0042 on February 18, 2014 for a cost of $420

The stock shows strength for awhile and you decide to sell at .03/share on March 3 or 4 for a profit of $2580

The stock pulls back down the next few days and you buy 100,000 shares again at .02 on March 5 or 6 for a cost of $2000

The stock runs again but starts pulling back so you sell at .038/share on March 10, 11, or 12 for a profit of $1800

The stock starts bottoming out and you buy back 100,000 shares at .023 on March 17, 18, or 19 for a cost of $2300

Now, the stock is moving again on news and you decide to sell shares at .069/share on either March 26, 27, 28, 31 or April 1 at .069 for a profit of $4300

The stock comes back down and you decide to buy 100,000 shares again at .041 on either April 2, 4, or 7 for a cost of $4100.

The stock starts to run and you sell at .059/share on either April 9, 10, or 11 for a profit of $1800.

The stock continues trending down and sideways while losing volume so you don’t place a trade during consolidation

On April 30, the stock drops a bit more and volume is coming in again. You buy 100,000 shares on either April 30 or May 1 at .029 for a cost of $2900

The stock starts gearing up again and you sell those shares at .048/share on May 12, 13, 14, or 15 for a profit of $1900.

Now, we are at present date (May 16, 2014), the stock is trending down and you don’t have a position. You wait to see where the price action goes and you follow it. You are not exposed to any risk because you are not holding shares.

Keep in mind that throughout these past 3 months, you have been mentally long on the stock. You never short sell it, but you take advantage of the dips and spikes. You’re never holding shares for too long so you’re risk is minimal and you lock in gains that are used to buy future shares.

So let’s compare the two:

Long Strategy:

Initially, bought 100,000 shares at .0042 for $420 on February 18, 2014

Has an unrealized gain of $3520 by May 16, 2014.

Still holding 100,000 shares which can increase or decrease in value throughout the year

“Mentally Long” Swing Trader Strategy:

Initially, bought 100,000 shares at .0042 for $420 on February 18, 2014

Swing trades the stock for 3 months and has a realized gain of $12,380 on May 15, 2014.

No longer holding any shares. At this date, the “mentally long” trader is exposed to zero risk and can still buy back in at any time.

In Summary

Everyone has their own strategy, and if you are making money, you are doing it right. It is not my goal to critique anyone’s strategy because we all trade differently, and, at the end of the day, everyone is just trying to make money. The strategy outlined above is one that works exceptionally well for me. It allows you to minimize your risk and lock in profits along the way. Swing trading like this can limit your risks, however, it can sometimes limit your profits. If you are not holding shares before a strong catalyst is approaching, you may not be able to get your desired entry. That being said, I would rather miss out on profits than succumb to losses. As a long term investor, dips and spikes don’t matter. As seen on the MYEC example, the parabolic spikes in the stock didn’t even affect the true longs because they weren’t selling. I prefer to lock in my gains. Profits mean nothing until you claim them.

Try to focus on this strategy next time you find “the next hot pick.” Know that you can believe in the future of a company and be “mentally long” whilst taking advantage of the dips and spikes in the stock price. This works well for active day/swing traders. If you don’t watch the market every day, this can be much more difficult. My strategy revolves around active trading and I would never invest in a penny stock without watching it constantly; they’re far too volatile.

Best of luck implementing this strategy.