May 12, 2022, 11:10 a.m. EDT

How To Trade Penny Stocks: A Beginner's Guide

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May 12, 2022 (Penny Stocks via COMTEX) -- Penny stocks can be the "stuff of legend" when they perform well. If you look at the history of cheap stocks, you'll likely find countless names that produced massive gains for investors. Some companies have even become market leaders competing with the likes of Pfizer ( NYSE: PFE ) and Moderna ( NASDAQ: MRNA ). This was the case with shares of a little-known biotech working on a treatment for influenza at the end of 2019.

The 2020 pandemic shifted its fate, and Novavax ( NASDAQ: NVAX ) grew to become one of the top penny stocks in the last five years. If you were a reader back then, you would have seen NVAX stock trading under $4 and ultimately ran to highs of $331.68 within a year's time. It has been 8,100%+ moves like that, which have remained an attractive proposition for traders looking to leverage their money.

What Are Penny Stocks

The definition of penny stocks includes stocks to buy under $5. Popular opinion likens all penny stocks to Over-The-Counter start-ups. However, there are plenty of NYSE and NASDAQ penny stocks to buy. The term "penny stocks" shouldn't be confused with "small-cap stocks" either. The "cap" in this term refers to the market capitalization of the underlying companies. In the article Are Penny Stocks Good For Beginners? [Answered] , we shed some light on this topic.

Generally speaking, market caps or "market capitalizations" are divided into different segments. None of these segments have anything to do with price being the defining factor:

  • Mega-cap stocks: These are companies with market capitalizations above $200 billion. Apple, Amazon ( NASDAQ: AMZN ), Tesla ( NASDAQ: TSLA ), etc., fall into this category.

  • Large-cap stocks: Companies with market capitalizations of $10 billion - $200 billion.

  • Mid-cap stocks: Companies with market capitalizations of $2 billion - $10 billion.

  • Small-cap stocks: Companies with market capitalizations of $300 million to $2 billion.

  • Micro-cap stocks: Companies with market capitalizations of $50 million to $300 million.

  • Nano-cap stocks: Companies with market capitalizations below $50 million.

Case in point, Banco Santander ( NYSE: SAN ) is the "largest" penny stock by market cap at more than $40 billion. It's a stock that can be bought for less than $3 per share. Meanwhile, you've got Village Bank and Trust Financial Corp. ( NASDAQ: VBFC ), which trades above $50 per share but has a market cap below $80 million. Those are two very different stocks with two very different market capitalizations.

How To Trade Penny Stocks

How do you trade penny stocks and make money? The strategies for trading stocks under $5 vary depending on the type of investor you are. It would serve you well in learning the most commonly used techniques and seeing if they can be applied to your game plan. No matter your experience level, this guide can help you understand the basic trading styles.

Trading penny stocks can be very lucrative, but it takes some know-how to get there. Luckily we have 4 of the most commonly used strategies for you to learn. Trying out new things is always risky - why take that chance? If you are learning how to trade penny stocks or haven't traded in the past, utilizing a trading simulator is an excellent place to start. Simulators allow you to risk fake or "paper" money instead of your own. While you won't make big bucks from winning trades, a significant loss won't negatively impact your real back account either and will allow you to learn from your mistakes.

The first place to begin is learning the different ways to play the market and how numerous trading styles can be used to profit from other moves.

How To Trade Penny Stocks #1: Scalping

Scalping is a typical trading style used by active traders. The basic idea of scalping, as the name suggests, is to execute many trades throughout each day and take profits based on rapid price changes. Think of quick small bites versus trying to invest in one big dish at once. To be successful, though, you need more than just good insight into prices; there's also timing involved. Making investments quickly before the opportunity is gone or getting out when things get too high risk is critical. Scalping isn't for everyone and should be conducted by experienced traders.

How To Trade Penny Stocks #2: DayTrading

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