Juniors 101

The Junior mining and penny stock market is an exciting and potentially profitable way to make a lot of dough in ways the large cap dividend paying stocks cannot compete with. Huge doubles, triples and even more lifestyle changing moves occasionally happen.

However, as everyone knows, it is not as easy as it sounds. With excess returns possible, excess losses are also possible. With huge moves to the upside, you have occasional crashes to the downside. Only invest your “play money” or what you can afford to lose. Also, the junior market is rife with scams, “pump and dump” schemes, and highly risky ventures designed to relieve you of your money. There are ways to mitigate this risk in the 10 rules below.

All juniors are micro-cap with share prices <$1.00 dollar which is why they are often called “penny stocks”. Most juniors are unknown and not followed by analysts from large brokerages. They struggle to differentiate themselves from each other and create their own market. So it can take more time and effort to analyze a small company than a large one and you need to do more of your own research. The result is that micro-cap stocks often do not trade at their full values, creating a price inefficiency from which you can benefit.

Penny stocks juniors can be either a company that has run into hard times due to a number of reasons. For example, the drill results were crap, the market sentiment is not there due to a general market crash or their properties were in Venezuela! Or they can be newly listed companies looking for a Qualifying Transaction.

Finding the right penny stock to invest in is a difficult proposition, since there are thousands of publicly listed companies vying for your attention and investment. 

The 10 rules of investing in Juniors

Rule Number 1: Never trust implicitly any newsletter writer

The amount of research conducted on any penny stock directly correlates to the amount of success you will enjoy in your investments. A good penny stock newsletter will not only educate you and prepare you for penny stock trading, it will add to your research arsenal and help you separate worthless investments from worthwhile ones. However, they have to get paid and they usually get paid by the company so keep that in mind.

Rule Number 2: Never buy a stock on the pink sheet or OTC BB

Stocks listed on the Pink Sheet market don’t have to file annual or quarterly statements, and there is very little regulation currently in place. Stocks listed on the OTC BB file annual and quarterly statements so can provide some measure of security and some of these stocks are also listed on the TSX Venture exchange so may be safe (see below). Pink Sheet and OTC BB stocks are more likely to be Pump and Dumps. YOU CANNOT TRUST THEM SO AVOID THEM.

Rule Number 3: Only buy stocks listed on the TSX or TSX Venture exchange

They need to file financials quarterly, annuals financials are audited. All insiders file trades on SEDI.  The TSX performs a lot of you due diligence for you and the TSX in conjunction with the various securities exchanges in Canada weed out a lot of the potential stock scams before they are listed. Things have come a long long long way since the Bre-X days.

Rule Number 4: Avoid a diluted Stock

The lower the number of shares out, the better a stock will respond to good news. It also indicated how well management takes care of the capital structure and thus shareholder money. Avoid any junior that has more than 80,000,000 shares out and does not have a “world class” flagship property. This is getting into roll back city and you don’t want to go there. Some stocks have an excess of stock issued which can give a false sense of liquidity and these heavily diluted stocks a best avoided.

Rule Number 5: Check insider buying, selling and ownership

Go to System for Electronic Disclosure by Insiders at www.SEDI.ca and see if they are buying or selling. This website is not the most easy to use, but you will get used to it. See how much of the stock outstanding they currently control and remember, you want to see a fair amount and at least >10% to make sure their interests are aligned with yours.

Rule Number 6: Skim their Financial Statement

These will sometimes be posted on the website but always on the System for Electronic Document Analysis and Retrieval at www.SEDAR.com. This is another government website that is not the most user friendly but is not so bad once you get used to it. Read the financials and the MD&A. Check the cash position and other items for solvency. Make sure they are not blowing all their money on Investor Relations and Shareholder Communication and are putting it into exploration.

Rule Number 7: Get a feel for the liquidity and trading patterns

When an illiquid stock suddenly starts trading large volume, this is an indication that you are about to make some serious money. If you are very serious about a deal that is currently illiquid, it may be worth your while to contact the company directly and work out a deal since they may be able to do a cross. Patience is necessary and you may have to sit on the stock for a while.

Rule Number 8: Don’t chase a stock

If you buy into hype and bid up a stock, chances are you will end up losing and the next tick will be a down one. Juniors are sometimes illiquid and the illiquid periods can often be the best time to buy. So put bids in between the bid-ask spread, never meet the asking price unless you know something good is coming down the pipe. Many investors put in so called “stink bids” which is a great way to get some stock for below the average trading range. To do this a bid is put in below the trading range and the investor sits on it with an occasional fill on a volatile day.

Rule Number 9: Never forget Mean Reversion

This is just a variation on the buy low, sell high rule. The theory states that prices and returns eventually move back towards the mean or average of the industry or economy. So if a stock has had a good run, sell some because this run won’t go on forever and the price of the stock will more than likely go down. Very important and easy to forget.

Rule Number 10: Get involved and have fun

Join a public forum such as www.aheadoftheherd.com or www.stockhouse.com and read and post. But beware since some of these forums are breeding grounds for pump and dump schemes. You can also phone up the company and talk to the management. Make sure they take your calls and answer your questions reasonably without giving you a line. Go the Cambridge House investment conferences, Resource Investor conferences, PDAC investors exchange or the Roundup conference. Learn about commodities, geology and mining.

Junior investing can be profitable and a blast. Following the 10 rules of junior investing will get you far ahead of the average investor, and will eventually make a meaningful positive impact to your portfolio. And by the way, don’t bet the farm on any one stock and diversify within the junior sector as well as outside.

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