Have you ever wondered why a penny stock falls sharply in price right after it achieves a major milestone? You've probably seen companies drop significantly in price on the heels of an FDA clearance, strong financial results, or gaining a much anticipated patent grant.
Sirius Radio is one penny stock that comes to mind, with it's shares dropping over 90% since they were finally given approval to merge with XM, after fighting for it for two years.
There's an expression in the stock market that says, "buy the rumor, sell the fact." The idea is simple. When there's an outstanding rumor about an upcoming event for a company, investors buy in, thus pushing penny stock share prices higher. Once the event itself is actually realized, the share price loses that upward buying pressure, and the penny stock drops in value.
For example, ABC Inc. is likely to get FDA approval for their new drug. The upcoming ruling is widely expected, and many investors buy in, speculating that the announcement will send the shares skyward. This starts pushing the penny stocks' price up.
Once the actually FDA approval is officially granted, the shares don't spike much higher since the speculators had already run the share price up so much. Now that the announcement is out, many of those same speculators start cashing out, putting a great deal of selling pressure on the stock.
The following events are some examples of what might drive buying interest: • impending patent award • expected strong financial results • new major customer or contract win that is widely anticipated • upcoming release of a new version of their technology • anticipated FDA clearance
Any such widely anticipated event would gradually push share prices higher. The penny stock would gradually increase, higher and higher, until the underlying event finally came to pass. Then speculative buying vaporizes, sellers come out of the woodwork, and shares start their descent.
For this effect to actually occur, the rumor or event needs to be: • widely known • growing in probability • noteworthy (potential for a major impact) • nearing the date it's expected to occur
"Buy the rumor, sell the fact," plays out again and again on the markets. It's certainly not the exception, but rather the rule. Keeping this in mind will help you identify penny stocks that may trend upward, allowing you to ride the shares up for profits. Just make sure to escape your position before they come crashing back down to earth, and more realistic valuations. In other words, buy the rumor, sell the fact.
Peter Leeds is The Penny Stock Professional. Along with a full team of support staff, they publish Peter Leeds Penny Stocks, an online newsletter specializing in low-priced shares.
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