You get what you pay for — It’s a time-tested truism applying not only to everyday consumerism, but to investing as well. Buying cheap stocks simply on the basis of their depressed price points typically leads to disaster. As conventional wisdom goes, cheap stocks are cheap for a reason.
Nevertheless, the allure of cheap stocks continue to pique the interest of even the most level-headed investors. After all, capital gains are admittedly limited in this environment of frustrating consolidation. Year-to-date, the Dow Jones Industrial Average has lost 8%, while the broader markets are down about 10%.
With such dismal returns, who wouldn’t want to try a deep pass into the end zone?
Thus, the key to success with cheap stocks isn’t necessarily abstinence, but smart risk-management. From a fundamental point of view, we are looking for some signs of strength amid the storm, either within a company’s financials or bullish developments in their given industry. Technically, cheap stocks should exhibit patterns that suggest a renewal of optimism, such as increasing volume or a rising trend channel.
Of course, cheap stocks are inherently volatile and no strategy can completely eliminate that risk. Still, arming yourself with a cohesive plan can greatly improve your odds.