How to Invest Safely in Penny Stocks

The Over-the-Counter Bulletin Board, or OTCBB, was originally designed as a launching pad for junior companies, but sadly enough, many will never make it to the big boards. While there are quite a few shining stars that rise through the OTCBB ranks and eventually find their way onto the NYSE, NASDAQ, or another large exchange, many run out of money and disappear long before they finally get their books into the black.

Despite this, penny stock trading volume has seen a remarkable rise in recent years, skyrocketing from a meager three billion shares in 1993 to a whopping 650 billion shares in 2006. While many small-cap stocks are unable to boast about achieving profits and revenues, there are certain things traders can do to spot small company penny stocks with the highest chances of survival. Keep reading as we uncover some time-tested ways to invest safely in the dynamic penny stock marketplace.

The Initial Screening Process

It’s one thing to know what to look for, but it’s another discovering the right tools that can help you navigate through over 3,000 OTCBB stocks. With a trusted stock screener in place, here are some conditions to look for when scanning the diverse penny stock universe in search of the right one:

• Due to the fact that most people trade penny stocks in order to benefit from huge price gains, it may be best to focus your attention on stocks priced under $2, allowing you to gain the most from its hopefully positive market movements. The average share price for an OTCCB stock is $.10, so doing so will automatically get rid of companies with less room for growth and keep the diamonds in the rough just waiting to be discovered.
• Every trader knows the importance of liquidity for entering and exiting trades, so it’s important to look for stocks with a minimum average trading volume of 100,000 shares.
• Aim your eyes at stocks that are currently reaching higher highs and lows. For instance, you may want to be on the lookout for stocks whose five-day SMA is greater than its 10-day, suggesting a current uptrend.
• Obviously, it’s important to avoid stocks that are hemorrhaging cash, so try to exclude penny stocks with negative earnings growth rates and earnings per share.

While screening for stocks that match these criteria will set you on a profitable path, you should perform your stock search over an extended period of time to avoid one-hit wonders or companies enjoying a temporary swing. A five-day period should be just fine and allow you to scan for possible candidates without taking too long and suffering from analysis paralysis. The stocks that come up in your screening more often than the others should be the ones on your shortlist.

Choosing a Winner

After passing the above stock screening criteria, each potential pick should also pass news, short interests, and technical tests.

To even be considered amongst your potential candidates, a penny stock should have a strong chart pattern, signaling an uptrend and increasingly higher support and resistance levels.

In addition to passing your technical analysis, a stock should also have a short interest under five percent. However, on some occasions, a high short interest occurs before a short squeeze, which usually drives the price up higher.

Even the best technical traders pay attention to the news, so needless to say, it’s important to check recent news about a potential penny stock pick. Typically, the more positive the news, the higher the company’s share price will go and vice versa.

If it passes all three tests and seems like a winner in your gut, you may have found your diamond in the rough, so get ready to ride the uptrend all the way to the bank!