Stop-Loss Rule for Penny Stocks

I wrote back on June 14, 2009 that I apply both a technical stop and a 6% stop to set my stop-loss level. We determine the technical stop from the price chart - usually based on the latest swing low. The 6% stop is simply the price at 6% below our entry price. I would then only consider to take the trade if the technical stop is above the 6% stop.

Back then I was trading mostly fundamentally strong shares price at RM5.00 and above, which were attractive because shares price between RM5.00 and RM9.95 used to move 5 sen per tick and shares price between RM10.00 and RM24.90 used to move 10 sen per tick. The 6% stop rule work very well for shares price at RM5.00 and above because their technical stop would generally be above the 6% stop.

Let's take an example to illustrate this point.

Let's just say we have bought SIME share on April 2, 2009 at RM5.85. The swing low for SIME back then was RM5.60. Using the 6% rule we would have set our stop-loss at RM5.50, which is below the swing low. See SIME daily chart below.

SIME Daily Chart on April 2, 2009

However, since Bursa Malaysia implemented the revised tick size structure from August 3, 2009, it has been less attractive to trade shares price at RM5.00 and above. Under the new structure, the minimum tick size for shares price between RM1.00 and RM9.99 is only 1 sen, and for shares price between RM10.00 and RM99.98 is 2 sen. What a big difference from 5 sen down to 1 sen and 10 sen down to 2 sen!

Only penny stocks (shares price below RM1.00) are unaffected by the revised tick size structure. Their minimum tick size was maintained at 0.5 sen.

The changes has made me decide to look at opportunities trading the penny stocks. However, I find it difficult to apply the 6% stop rule for penny stocks because of their larger % price movement resulting in their technical stop generally being below the 6% stop. A wider stop would be advisable - somewhere in the range of 10-15% below our entry price.

Wider stop is required for penny stocks and it can be based purely on technical stop provided we limit our risk to no more than 2% of our trading capital per trade. We may need to reduce our position size appropriately to reduce our risk to acceptable level.

Disclaimer:

Trading and investment involves risk, including possible loss of principal and other losses. I shall not be responsible for any losses or loss profit resulting from trading or investment decision based on my posting and information presented in this blog.