Lessons From A Penny Pro

Stock Structure and Why it Matters

Markets were red on Monday and green on Tuesday.

As for me… I decided to wear green both days…

 

 

(It might not look like a lot in profits… but it equates to almost $400K a year if you can keep the pace. If you want to learn more about my trading system, then click here.)

 

No, I didn’t get long the market because of improved odds of a trade deal or the Fed signaling that it might cut rates this year…

I was trading stocks in companies that most people never heard of…

Names like CarSmartt, Cerebrain Biotech, and Halcon Resources,  to name a few.

 

(Keep up the good work Stacy!)

 

You see, these stocks typically move on their own catalysts… it doesn’t matter if the Dow is up 500 or down 500 points… these stocks do their own thing.

Like Legacy Reserves the other day which popped by more than 300%…in what was an awful market on Monday…

 

 

That said, most of Wall Street avoids these stocks, and the analysts don’t even bother with them. And since there isn’t much coverage on them, your best chance at success at trading them is by mastering the chart setups…

However, that’s not the full story…

In fact, you can improve your odds of success by 10x if you just do a little bit more research.

No, I’m not talking about reading boring analyst reports. I’m talking about understanding essential concepts like stock structure. And how outstanding shares and the float play a role in how a stock can trade. Keep reading if you want to learn more.

 

Stock Structure and Momentum Stocks

 

Supply and demand rule the economy… especially in the markets.

If you think back to an economics class you’ve had in school… there are buyers and sellers.

If there’s more supply, with no demand… what happens to the price of the product (or stock)?

Well, the price goes down right.

On the other hand, when there isn’t a lot of supply, but a lot of demand… what happens to prices?

They shoot through the roof.

For example, let’s say I have 1M apples… while my competitor has 100K apples.

Now, I’m not seeing a whole lot of demand for my apples… however, I always see a line out the door at my competitor’s shop…

Who do you think charges a higher price?

My competitor of course… he doesn’t have a lot of supply, so he can charge a premium.

But what happens he if runs out of apples, and all of a sudden I have people lining up for my apples… and my supply goes from 1M to 500K?

Well, now I could charge a higher premium.

You’re probably wondering, “Jeff, what do apples have anything to do with stocks?”

If you think about it, this example is very much like the structure of a company. Except instead of apples, we have shares of a company.

Let me walk you through an example of how to analyze a company’s share structure, and how it can benefit your trading.

 

Knowing Share Structure Could Help Your Trading

 

Now, if you don’t know what share structure is, let me explain.

Shares outstanding is the total amount currently held by shareholders. Now, the number of shares include restricted shares (stock owned by the company’s officers and insiders).

This figure is actually very important because if that number is high, it means the company could potential dilute shares down the road.

 

Shares Float (Floating Shares)

 

Next, we’ve got shares floating. This is what we really care about.

Shares floating is the number of shares of a stock that are actually available to trade. Basically, shares floating excludes the restricted shares.

You see, if you look at volume and price action, then pair it with the number of shares floating, you can actually spot potential trades. Remember supply and demand?

Well, what happens if there’s a lot number of floating shares (that’s the supply here), and traders want to buy the stock because it’s hot?

The stock goes up because buyers are willing to pay a higher premium for the stock.

For example, check out these statistics on Legacy Reserves (LGCY) from Finviz.

 

Source: Finviz.com

 

Now, do you see the blue rectangle?

Well, that gives us the number of shares outstanding, shares float, short float, and short ratio (we’ll save short float and short ratio for another lesson).

When you look at LGCY you’ll see it has 92.14M shares floating.

You might think to yourself, “Wow, that’s a lot of shares available to trade… there’s so much supply, this stock can’t double…”

In the markets, that’s actually considered a low float by some. In other words, this stock could spike with just a little bit of buying.

Now, when you compare that to something like Apple Inc. (AAPL).

 

Source: Finviz.com

 

Think about it like this… AAPL would probably need to do 2B shares in volume in a day to see a monster run… and it’s gotta have some juicy news behind it.

Think about this, if AAPL trades 2B shares in a day… that would mean over $300B worth of AAPL would be traded in a day.

Chances are, we won’t see large moves in AAPL like the ones we see in penny stocks.

On the other hand, LGCY was trading around 10-15c a share when I was looking at it… and with just 92.14M shares floating, it didn’t need a whole lot of demand for the stock to run up.

If you didn’t read my post on the LGCY trade yesterday, click here to read more about it.

Now, when you’re looking at the share structure, make sure to cross reference these numbers.

For example, your brokerage platform should offer these statistics… but you could also look at Finviz (which we used), as well as Morningstar… just to make sure the numbers are more or less in line.

 

 

Here’s the chart I was looking at in LGCY.

 

 

Here’s what the stock did after…

 

 

Now, around 83M shares traded, according to stockcharts.com.

Remember there were 92.14M shares floating (Morningstar actually had it at around 75M)?

The stock was actually up 300% the other day… but it’s not fair to say all 83M shares were buys.

However, let’s say between 45M to 50M of those where buys…

… remember there are only 92.14M shares floating.

Well, the float was getting bought up… and traders were willing to pay a higher price, thinking the stock would run higher.

You see, when penny stocks break technical levels, like key moving averages… it opens the floodgates and a sea of buyers rush in… pushing the stock higher.

Well, what caused this buying pressure?

There was actually some bullish news that came out… 

With a low number of shares floating, the news, strong momentum and the stock breaking above key technical levels… I figured this stock could be a runner.

Once I conducted this analysis… I made sure to let clients know about my moves in LGCY.

 

 

Just by knowing a bit of share structure, combining some fundamentals, as well as using my charts allowed me to take part in this massive move in LGCY.

Now, I’ve actually developed a 5-step trading system – what I call The Profit Prism… and it’s geared towards traders with small accounts (less than $25K). If you want to learn more about developing a simple, yet powerful trading system, click here to get started.

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