The trading of low volume stocks could be extremely risky. The stocks with lower volumes generally have a daily average trading volume of just 1,000 shares or less. They could be part of smaller, less well-known businesses that trade over-the counter (OTC). They can even be listed on the major exchanges.
These types of stocks are out of the reach of mainstream investors and traders, and are not subject to the interest of traders in general. They could be risky as their small volume causes an absence of liquidity and the ease of manipulating prices. Companies that are smaller and more recent are also found in a large proportion of low volume stocks. These companies could collapse and leave investors without a dime.
There could be great benefits in the same area there are risks. The article we’ll discuss ways to trade low volume stocks, and even make some money.
Which is Your Approach?
Before you invest in low-volume stocks make sure you decide on a strategy. Are you looking for quick-term gains in trading or do you want to invest long-term in a company with little recognition that you trust? Short-term traders can earn profit from the occasional price fluctuations of stocks with low volume.
Since so few shares are traded, it is not difficult to alter the price for the shares. If you live in South Africa then the best stock trading app south africa can help you a lot. However, there is always the possibility that you are unable to purchase or trade the shares at the highest profit because of the stock’s liquidity issues.
Long-term investors who invest in stocks that are low volume are expected to be knowledgeable about the business potential of a company. Do your research thoroughly and get to know the company before investing. Professional traders know that a lot of small-known companies regularly post on OTC stock exchanges in order to raise capital, but only a few of them are successful over the long haul.
Before deciding whether to take the best approach for your needs, whether it’s long-term or short- it is also possible to think about other aspects when you are considering investing in low-volume stocks. We’ve listed seven below.
Microsoft (MSFT), Infosys (INFY) might be household names in the present. At one time they weren’t popular and traded in very small numbers. Investors who were able to choose their stocks at an early age, whether through luck or thorough analysis of stocks were able to increase their investments by many times. That is, they picked what experts finance professionals refer to as multibaggers.
Multibagger is the company’s stock that increases in value many times more than its original price (the bag). Therefore, someone with an initial investment of $1,000 was multiplied by $10,000 is 10 bags.
If investors know a sector and conduct thorough study, the possibility of a long-term windfall is possible in low-volume stocks.
Think about assuming the role of a market-maker when you have stocks that are not traded extensively, and there aren’t many or no. Be aware that a market-maker chooses the one (or perhaps two) stocks and makes offers to purchase and sell them using prices for bid and ask. In this way, the market-maker helps both buyers and sellers to ensure liquidity.
In this situation trading, traders can profit from lower liquidity by offering large bid-ask spreads to trading counterparts and then taking the differential. Be certain to have an alternate strategy. Also, consider a less restrictive position instead of accumulating massive quantities of inventory that you might not be able to get rid of.
Benefits of Corporate Activities
There are a few stocks that have small trading volumes due to their popularity. Indeed, certain stocks might trade this way because of their extremely expensive stock prices. For example, Berkshire Hathaway’s class A shares (BRK-A) sell at the astonishing price of $214,675 per share. The average volume of trading is just 350 shares per day. Seaboard (SEB) is traded at $3750 per share and has an average of just 470 shares.
In the case of stocks like these an action by a company such as an unpopular stock split could cause lower prices as well as greater trading volume. The result is greater liquidity and a higher level of market participation. The returns can be significant. It is difficult to predict the timing of corporate actions.
Periodic Events, Phases and Temporary Event
The uncertainty surrounding major events, such as conflict, political controversies or extreme weather could be a chance to gain from stocks that are low volume. In 2004 the results of India’s general elections were followed by a significant decline in prices of stocks in the event that a coalition of Communist party was considered the sole choice for forming a government.
Investors who bought stocks during the doomsday market were rewarded with a tripling of their purchase within a mere four years. Some of the top performers were under-appreciated, low-volume stocks that earned upwards of 15 times the returns.
Stock trading that is low-volume can be the result of macroeconomic or local factors. A country might be experiencing a recession or slowdown with more inflation and interest rates. In these times, you will typically see lower stock trading. Stocks that were traded sparsely prior to the recession do worse.
The effects of recessions and slowdowns usually end or reverse when given the proper time. Investors with experience can make use of surplus funds to put it into carefully selected winners that can yield good returns over the long-term.
Initiatives and changes imposed by the exchange could boost up the yields of thinly traded stock, thereby providing huge potential for profit to risk-averse investors. For example, Bats Global Market, one of the biggest exchanges for stocks across the United States, put forth an idea to place low volume stocks on less exchanges. This could boost liquidity of small-volume stocks.
Benefit from the overall market rise
The saying goes that “when markets are rising everybody makes money.” The general market increase could be due to a stabilizing government, lower prices for oil and other global or local developments. If there is an overall market surge stock markets with lower volumes tend to reap the greatest benefits.
The Bottom Line
The trading of stocks that are not popular is a risky venture. Benefits could be affected by numerous factors that are beyond the control of the investor. The best option for investors is to consider the long-term view and invest extra money you might not require and pick stocks with good business prospects.