Penny Stocks For Dummies
Book image
Explore Book Buy On Amazon
A penny stock is a small company's stock that trades via over-the-counter (OTC) transactions for less than $5 per share. A few consistent traits often indicate that a penny stock has a bright future ahead. You can use these hints to assess a stock quickly, and they can serve as valuable analysis tools for investments of any size.

Watch the money flows

Money flows into and out of stocks, and that impacts share prices. When dollars are flowing from the sidelines into shares, the net result is generally an increase in the price of the stock. The same holds true in reverse, too: money flowing out of shares can bring the stock price down.

You can watch the money flows by using some readily available technical analysis indicators, such as money flow and on balance volume (OBV). Both are available from free analysis websites, including

When there is an upswing in OBV, or money flows are strongly positive, but there has not yet been any increase in the share price of the underlying penny stock, share prices are likely to move higher.

Money flows usually coincide with share price moves, but sometimes they occur before the penny stock reacts. Timing is everything! Investing during a window of time when money is moving into the shares, but before the stock has reacted positively, can be a very profitable strategy.

Spikes in trading volume

Generally, trading volume spikes when a company has good news or experiences a positive event. Share prices generally increase soon after such events and will continue to move higher until the buying demand subsides, which could be within a day or perhaps many weeks later.

When the daily trading volume increases to at least double the average, while the price of the penny stock moves higher, it can be an excellent time to invest. This is often the beginning of a nice upward price trend.

However, be wary of volume increases that come with dropping prices. This could represent shareholders selling en masse, perhaps due to negative news or a scandal surrounding the company.

Let spikes in trading volume indicate potential upcoming price moves, but always beware of dropping share values that come with the increased trading activity. Focus on increased trading volume only when it comes with price strength.

See what management has done with previous companies

Here's one instance where being stuck in the past is a good thing: the best indicator of future results is past performance. Said another way, people will generally continue to do what they’ve always done. This is just as true with company management among penny stocks as with anything else.

Before investing in any penny stock, take a look at what the key personnel running a company have done previously. A CEO who multiplied the value of several companies they were involved with should get a lot more credit than one who bankrupted the last few.

Their name, product, or industry keeps coming up

Pay attention to the social buzz surrounding any product or service. When you hear about a new donut shop for the third time in a week, or you see a product name via five different sources over the course of a month, look into the underlying company. Hype can often drive share prices dramatically higher in the short term.

Bank on increasing market share

When a company demonstrates an increase in market share, it implies higher sales, greater product acceptance among customers, and pressure for their competition. The best-case scenario is steady and predictable market share gains, as opposed to volatile and unpredictable changes from one period to the next.

You can find out a company’s market share by calling its investor relations contact and asking. You can also find out the total size of the market from its financial reports, investor presentations, or even its direct competitors. When you have the total market, divide the company’s revenues into the total market size to calculate its market share.

Welcome smaller slices of larger pies

In many cases, a company can be losing market share in a rapidly expanding space and still be pulling in greater revenues. That’s because the size of its slice of the market may be relatively smaller, but the slice may be coming from a much larger pie.

For example, 10 percent of a $50 million market is much better than 50 percent of a $1 million market. Often investors sell their stock based on falling market share, but that market share has begun decreasing simply due to a significant increase in interest in the space. Still, only focus on market share percentage if there is no tangible change in the total size of the market.

Higher highs, higher lows

Stocks on the rise will have up days and down days. An important way to spot penny stocks that are truly making price gains is to focus on high and low prices over each time period.

When a share reaches higher highs than it hit previously, that is a strongly bullish sign. However, you shouldn’t trust this on its own as a sign of an upward trend, because the stock could just be getting more volatile and trading over a wider price range.

Higher highs are great, but higher lows are even more important. Ideally, you want to follow and invest in shares that are making higher highs and higher lows. Such characteristics will indicate a stock that’s truly on the rise and should perform well going forward.

Watch professional investors

For most stocks, professional investors who follow the company purchase a portion of the shares. Typically, these traders have greater knowledge about the company and often use high-level analysis when gauging the future share prices.

Institutional investors, such as hedge fund or mutual fund managers, are highly educated about investing and are building their reputation and career on their predictions. You can put more trust in their outlook for the stock than most other investors.

Also, industry or specific company analysts go to great lengths in their research in order to develop their price targets and expectations. When they predict the shares to double from current prices, whether or not they turn out to be correct, you can assume that they do believe their prediction and have a higher likelihood of being correct than the average person.

Fundamental launch

The financial results from operations for any growing company eventually hit a tipping point. When a penny stock goes from trying to control costs and generate revenues to eventually producing a profit, the shares can really respond.

You can predict that tipping point by watching the progress of the fundamentals. Typically a small and growing company will make the step to the higher level by decreasing expenses or at least keeping them stationary, while revenues grow by double digits, such as sales rising by 10 percent each quarter over the previous quarter.

By assuming that growth remains at approximately the same rate, you can figure out a company’s revenues for the upcoming (and not yet reported) quarter. If the company has also demonstrated a focus on decreasing its expenses, you can anticipate upcoming profitability.

The greatest gains in the price of the shares may come as the company approaches, rather than actually achieves, profitability. This is due to anticipation among shareholders. The positive effect of actually reaching profitability may not produce share price gains that are as strong.

About This Article

This article is from the book:

About the book author:

Peter Leeds, also known as The Penny Stock Professional, is the publisher of Peter Leeds Penny Stocks, a popular financial publication with over 50,000 subscribers. He is also the author of Invest in Penny Stocks.

This article can be found in the category: