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Tops And Bottoms In Penny Stocks
August 3rd, 2006
As Penny Stock Professionals, we are often asked if there is a way to know when a stock is bottoming out at a bargain price. We are also asked if a price top or peak in a penny stock can be identified.
One of the best ways to spot both topping out patterns and bottoming patterns in penny stocks is to watch for 'instability' in the trading pattern.
Put simply, when the spread between the bid and ask becomes uncharacteristically large, or the price volatility exceeds that of previous months and weeks, it may indicate a change has arrived.
With penny stocks, there will always be bigger spreads (difference between bid and ask) than is found in conventional investments. That spread will get even greater as the market begins topping out. It will also get greater as it bottoms out.
Why does this happen in penny stocks, and why does it indicate a reversal in the current trend? I'm glad you asked.
Picture the real estate market. House prices have been rising and rising... but eventually, the buyers get exhausted. Most buyers have bought their homes in the market's run-up. They are very unlikely to sell anytime soon. Sellers have been emboldened by the strong demand, and heave reacted both greedily and wisely by asking higher and higher prices. The high prices encourage more and more people to come out of the woodwork and sell.
Suddenly, just like would happen with penny stocks, the supply starts growing, and the pricing of that supply is very high. The number of purchasers starts declining. Those that are still looking revolt - 'I'm not paying that much for that house. I can't afford it anyway.'
There is a window of time, just like in penny stocks, where the sellers are asking the highest prices yet for their homes. There is a big drop off in buyers, especially among those able of willing to offer high prices.
End result, a larger gap between what people think they could sell their house for, and what people are willing to pay.
Then the prices start to decline.
Once more, just like in penny stocks.
The same holds true for penny stocks (or a housing market) that is bottoming out. There will be a bigger than usual spread between bid and ask prices. This may signal a reversal in the trend of the underlying penny stocks.
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