Small caps are volatile and this is why they are great to trade. It’s nothing for a stock to move 15% or more in a single day. This is all well and good but OFTEN there is a very big problem with these type of stocks. In a word~LIQUIDITY.
If there isn’t enough liquidity you will have a very difficult time in this space. I learned this the hard way. There is nothing worse than wanting to close out a trade and unable to get filled. Or worse, being closed out with huge slippage. Anyone that has traded these stocks knows what I am talking about.
So what is the answer? I sure there are other ways but for me I just trade the small caps in the SP600 Index. These stocks generally have good volume and liquidity.
Yes agree generally, but no in some cases. I once backtested a VERY promising strategy, not at all overfit, but it was based on daily OHLC data. Specifically, it tried to capitalize on downward gaps at the Open for small caps with historically good liquidity and volume. It failed spectacularly in practice, even with a relatively small allocation. What I found was that even in these larger, more liquid small caps there is little liquidity for a strategy that tries to squeeze into a great price deal (like an especially low gap at the open). Daily OHLC historical data says “Hey, XXX opened at 159.99 and then traded all the way up to 168.22 the same day”, and that’s what the backtesting has to work with. It even looks the same with intraday data, except you start to see that it was only in the first part of the first hour that such a good price was available. And finally you get hold of tick data, and find that exactly ONE trade clocked in at $159.99, and the next one was maybe 164 or didn’t even gap down at all… that there was indeed an opening trade that low, but only one and a strategy at C2 will never ever be able to replicate that kind of trade for subscribers.
The reason those trades exist (and they really do!) is low liquidity leading to market inefficiency: some days have a thin order book on buy orders, and the highest limit buy order is sometimes percentage points below the previous close (say 159.99)… and some poor soul puts in a Market sell order for his 69 shares before the open and badaboom we get a fill to open the day at a big gap down. But nobody else comes close to filling an order at that price.
Even 5-minute historical data isn’t enough to catch this in backtesting. To really see it in action you have to find candidates with big gaps and look into tick data to find it. And it’s out there, in the real world, in otherwise liquid small caps and even medium caps.
There are probably other liquidity traps for small caps, but that was one that caught me once upon a time. Among my many hard lessons 
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Again you are pretty much spot on. It sound like you tried many of the same things I have.
Breakout strategies of volatile move set ups ALWAYS pose a problem. The fact they we still have numerous “false breaks” on the most liquid large caps makes the problem with small caps 10X or more.
Hence the strategies I look for are not technical in nature for entries. I like strategies that look at things like EPS, RE ratios, Book values, etc. I look for strategies that enter a position while the stock is just sitting there doing nothing but it has legitimate reasons to move, if that makes any sense.
Getting out is much more technical as mostly limit orders are used.
Sounds good for you, really hope it works out well. I’m apparently not patient enough for value investing, I’ve found. “We get too soon old, and too late smart,” as they say, and also “The market can stay irrational longer than you can stay solvent.”
My comment was really directed toward strategies trying to capture really favorable prices either at the open or the close of a trade, in essence scalping strategies (although I didn’t really consider mine scalping when I first found the edge). They (scalping strategies) just don’t usually cut it with the C2 model of trade leaders and subscriber followers, as attested in many of these forum posts.
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What is your strategy again? I’d like to get a feel of what you are doing?
I haven’t named my strategy here. It’s only been on C2 (and live in my IRA account) for a month, and has little to show for it. It’s an algorithmic strategy with fairly low turnover trading large, liquid ETFs, with typical trades placed at the market Open, and uses leveraged ETFs when market conditions merit leverage. I expect it to do well over the longer term, and by design it should perform best during market turmoil. We’ll see about that. I’m about to sign up for a year’s lease on my C2 account instead of month-by-month to commit myself more fully to making this work (and to save on expenses in the longer term). Hope to meet you on the Leader Board in a few months.
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Very good. I will be here.
Make sure you send me the details when you get it up and going.
Small caps have very acute sensitivity to interest rates. The lack of liquidity is a huge factor as well maybe try small cap ETFs. IJR and RWJ have good long term results. For pops use the small cap growth variety, IWO, DWAS etc.
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