In the last four episodes, we have reviewed the many aspects of trading penny stocks and how to avoid investment fraud that could spoil your experience. There is one more area to discuss. Warren Buffett once wrote, “To invest successfully over a lifetime does not require a stratospheric IQ, unusual business insights, or inside information. What is needed is a sound intellectual framework for making decisions and the ability to keep emotions from corroding that framework.” Controlling one’s emotions in the heat of a moving market, particularly with micro-cap stocks, can be difficult, if not impossible.
A successful penny stock investor must control his emotions and be extremely disciplined in his approach. However, behavioral experiments in the nascent field of investment psychology suggest that our internal programming can be our own worst enemy when pressured to make split second decisions. Second-guessing and the fear of making a mistake, especially when the act of selling is involved, can plague and “corrode” our resolve to trade effectively.
Do we need to seek a therapy before we trade? Of course not, but some self-examination is in order. Trading in high-risk, thinly traded stocks is not for everyone. You need to develop and document your personal trading strategy. Execution must become almost robotic, a routine that removes the effect of distractions and emotions from the decision making process.
Developing a routine starts by defining your entry and exit strategies before you even purchase a stock. Buy only after earning releases and when a combination of chart indicators suggests an oversold condition. Fundamental analysis is difficult for these companies. Let your technical analysis guide you. Set a profit target before you buy the stock, and when that percentage is reached, sell. If the market moves against you, then cut your losses. Always look for patterns, and if your stock doubles, take half the profits and invest elsewhere.
Our primer is now complete. You now have a roadmap to guide your process. You know that preparation, information, practice and strategy are key components for success. There are no shortcuts for any of these factors. You must put the time in to build the necessary confidence and experience to trade in this volatile environment. Find a good training course with experts you trust, and “paper-trade” as much as it takes to develop a disciplined approach to the market for both buying and selling. If you find yourself second-guessing every trading decision you make, then perhaps, a less volatile and risky investment sector would better suit your personality and psyche.
On the fraud prevention front, you are your first and last line of defense. “Pump-and Dump” schemes are still prevalent in the penny stock arena. You must recognize the warning signals to protect your precious capital from this scam and others. The criminal element is very organized and skillful in using your greed or fear to manipulate you. Only deal with trusted parties, and avoid unsolicited offers. If it sounds too good to be true, then the odds are that it is.
Trading penny stocks has become a very popular investment activity with the same allure as with the old gold prospectors of yore. Simply Googling “penny stocks” yields nearly 3.5 million results, an indication of the broad interest in the field. With the right preparation and disciplined approach, investing in penny stocks can be fun and rewarding at the same time. Practice, practice, practice is the mantra to follow, and with luck and a bit of skill, you, too, may discover a few nuggets nestled in the bottom of your trading pan. Good luck, and happy trading!