Speculating In Low-Priced Stocks – Free Shares – Fast Money – Stocks I’m Watching

I’ve always been a tape-watcher. Something about watching where the action is has always intrigued me. It should come as no surprise that lately the action has been in the low-priced stocks and almost every day now we see some of these little stocks doubling or tripling in a short amount of time. Heck even in a day.

We are delving into one of the most dangerous and speculative areas of the market now, stocks under $10. Don’t confuse my ideas with so called penny stocks because I will never consider anything under a buck and I will never trade any stock on the Bulletin Board or Pink Sheets. I’m talking low-priced stocks that are very volatile and come with a lot of risk and reward.

Speculating in low-priced stocks is only one of many styles and strategies I dabble in and is only appropriate in moderation and with risk capital.

I would characterize my style as 90% charts and 10% fundamentals. 90% short-term trading and 10% investing.

Let me explain.

My idea is to find a chart pattern that looks like it tends to repeat itself. While it can take on different forms and is hard to explain in words as I look through charts I see stocks with repeating patterns that appear symmetrical to some degree and even to the untrained eye.

For instance:

I’m assuming that you see the pattern on this chart that I do and would guess if I stopped random people on the street and asked them if it looked possible that in the future this stock might spike up again many would say "yea sure, what stock is that?". I would just laugh and tell them that I see charts all the time with patterns that look like they repeat. It doesn’t mean they definitely will but hey, we are speculating here.

There are hundreds of stocks like this and you can’t buy em all – most are a crapshoot at best so the strategy I use is to scale-out and try to get my investment back, with some profits in cash and some profits in shares.

Here’s a trade I did in EGLE:

Without going into a lot of detail on the rationale behind this trade, it is a good example of this strategy.

The goal is that I want to get into a stock right before a big move up. I want to be ready to take 1/3 to 1/2 off the table quickly. Ideally I want to sell in stages that return all my original capital, then split additional gains between cash profits and free shares.

I mentioned it in my previous post but a simply analogy is to buy 1000 shares and sell 800 shares when the price is up 20%. Get the entire investment back in cash and keep the 200 "free" shares. In certain cases when the trade goes in my favor I will pull all the cash out and then on a subsequent move up I will take cash profits as well as hang on to a few shares as an "investment". This is tricky stuff and I have learned that it is impossible to buy at the bottom and sell at the top and know what is going to happen next week or next month so the way I play it is to simply do my best with the volatility and get my initial investment back in cash and safe as quickly as possible.

The reason I took part of my profit in shares is because EGLE had decent "fundamentals" and has potential for the long-term.

One important point here is that EGLE can go out of business and I still made a couple grand in profits from the trade. Do I wish I had sold all of it over $9. Heck yea. But it is this kind of thinking that will get you in trouble. I have seen it all when it comes to these kind of stocks and the only thing that is guaranteed is volatility. My strategy is to simply take advantage of that and try to pull some quick cash or free shares out of a trade and move on.

Here’s a trade in GMO where I took all the profits in cash and did not keep any shares:

In hindsight I would have played this one slightly different and kept a couple hundred shares, but I had a stop-loss set at 2.50 for the second 1/2 of the shares. Every one of these trades works out in a different manner and it helps the learning curve a little. I was inclined to sell all in this trade based on how extended this stock became. I assumed it would pull back below my exit points and was considering taking another stab at it.

So while I am still working on a set strategy, I have to "wing-it" to some degree and treat each trade independently. I am thinking that if I were to have one or two successful trades each week like these I could amass a decent portfolio of low-cost, no cost and free shares. The key to not get greedy. Take some profits quickly. Decide if you are going to sell all or keep some shares. This strategy might work great with dividend paying shares as one could take all the profits in shares and get a nice revenue stream of dividends on "no cost" shares. There are some high-yielding closed-end funds that pay a monthly dividend at Blackrock. While they are not nearly as volatile as the "lottery ticket" stocks I like to watch, the concept is valid. It’s all about timing the trade.

Where do I find the low-priced stocks to add to my watchlists? In the Research Lab Low Priced Movers list.

A good strategy that goes hand in hand with what I have been describing is to take partial profits on a trade and hold "low-cost" shares. I did this recently with a different stock where I bought in two chunks of 500 shares each, got the pop-up I was looking for then sold 1/2 of the position. The result is I have 500 shares with a very low cost basis. This strategy is much easier and is a sort of stepping stone to pulling out the entire investment. In this case I will sell the other half of my shares if the price comes down to my basis cost. So I can not lose anything but the gain at this point. If the stock continues up I will decide at what price I can get back the entire investment while keeping some no cost shares.

Rather than go into great detail on the math I wanted to share the concept and leave the decision to the reader. Once you start mulling over the strategy you will find there are a number of ways to implement it and you have to decide on a case by case basis how you will actually trade, and in what increments.

It seems so simple but I do not recall hearing anyone else discussing taking profits in shares rather than in dollars. With the market turmoil we have witnessed in recent history it only makes sense to take the risk off the table by trading your way to low-cost or no-cost shares. I think it is a good way to turn trading profits into low-risk investments in some cases and if nothing else some fast-money.

It’s easy to go a little far out on the risk-curve so I constantly have to reel myself in and realize that many of these stocks are a crapshoot. I only use "crazy money" for these specs and occasionally get hammered, but I like the action and it’s working in this environment among other things. even on down days in the overall market there are huge pops in many of these stocks and I constantly build my watchlists from the picks. Many times I see stocks that are just beginning to set up. I like to have lots of potentials on my list.

The hardest thing to do when trading the low priced and volatile stocks like these is to set your stop loss and stick to it. The fact that they move up and down so much and so often leaves us thinking that if we get in and it moves down that it will come back. Never assume it will come back to what you paid and never assume that you won’t lose a substantial part of the investment on any given trade. The stops have to be wide and the dollars you lose have to do minimal damage to your overall trading account so if you are going to dabble be prepared to have trades go against you. I think that setting a stop loss is critical because this stock could easily go back to "whence it came" and I don’t want to stay on any sinking ship (pun intended), I’ll take the "life raft".

Until next time, have some fun and bank some free shares.

PS. If trading these kind of stocks makes the hair on the back of your neck stand up and you prefer to trade high-priced high-volume stocks in a logical and methodological manner, then pop over and see what my buddy Jeffrey is doing in the Swing Trading Club. He wouldn’t touch these guys with a 10-foot pole as he avoids speculation at all costs. There’s lots of ways to skin a cat but you still end up with a pelt.