Using Mainstream Tools To Discover Microcap Stocks

One of the biggest misconceptions about microcap stocks is the notion that traders should avoid mainstream analytical tools and instead base trading decisions on rumors, tout sheets, and inside information. I think that is a big mistake. Conventional tools are the core of my microcap trading arsenal. Here's how I use them:

Tear sheets: I occasionally look a company's description page on the Bloomberg terminal, but more often than not I just review the Profile, Key Statistics, Headlines, and Insider Sales pages on Yahoo! Finance. Put these together with a basic chart and you have all the information in a broker's tear sheet.

Industry analysis: Yahoo! also makes it easy to examine a stock's industry. Are most competitors doing well or poorly? Start with the Industry Center, such as this one for shipping I use to explore the business environment for my holding Excel Maritime (EXM).

Pricing surveys: Sometimes generalized price information is available for a particular industry. For Excel Maritime, I look at the Baltic Dry Freight Index, posted to the right courtesy of investmenttools.com (click to enlarge). I know that if freight rates drop sharply, so will EXM's revenues.

Analyst industry reports: Most microcap stocks are not followed by credible analysts, but careful review of industry reports will give you valuable clues. For this, look at the periodic industry reports from top brokers or the business environment discussion in reports on larger companies within the industry.

UBS Oct 31 2006 Co...

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For example, today Bill Cara was kind enough to post this huge report from UBS on commodities in the year ahead. On page 32 I learned that: (1) UBS expects bulk freight rates to fall more sharply than consensus because of China slowing; and (2) iron and steel use in China are the key factors to watch. I incorporate that information in my trading by keeping a vigilant eye on freight rates via the BDI index and setting up a news search for Chinese steel/iron stories.

SEC Filings: These are free and searchable on the SEC's EDGAR site.

Trend analysis: For several months I have been tinkering and backtesting trailing stop techniques. All of the techniques I have examined were designed for largecap stocks or futures, but a few work quite well for microcaps. None are perfect, but neither am I working on a discretionary basis. For a stock like Excel Maritime (to the right), I only want to be in it as long as it is trending. These stops, along with the BDI and other tools, will make sure I do not overstay my welcome.

Once you are accustomed to these tools, it takes no more than an hour or two to get a good read on most stocks.

DISCLOSURE: I am long EXM.