Over the past week the largest publicly traded Mixed Martial Arts (MMA) company changed hands (95% of the company at least, market cap = $6.7mil). This big news has caused a renewed push for ProElite (PELE.PK) to reinstate its operations as a MMA promotion with the goal of becoming the #2 MMA promotion in the U.S. behind the Ultimate Fighting Championship. The details of this transaction are not the subjected of this blog. What I want to emphasize is the incredible volatility a low volume stock can achieve with a very small amount of interest or disinterest amongst investors.
When a stock has ‘low volume’ I am speaking about the frequency at which it is traded. When a share of a stock trades the transaction generates volume. The higher the volume the more active or liquid the market is for a certain stock. Many penny stocks have a relatively low volume. Even the companies that appear to have a high amount of volume might not actually have much money trading hands. Keep in mind that volume is reflective of shares changing hands. When the dollar value of a share is very low, then it takes a greater amount of volume to constitute a large amount of money moving amongst traders.
Today ProElite began trading again (trading had halted until the deal was finalized). If you check the stock’s percentage change today you will see that it increased by over 70%. This is impressive, but what you need to look at is the volume that caused this change to happen. The volume was 61,984. If you multiply the volume by the closing price, .12, you will see $7,438 worth of the company moved today.
A stock that is able to jump +70% off of such low volume tells me that the stock is not very liquid. It’s hard to get in and get out of the stock under such conditions. The 70% gain investors booked today could be easily crushed tomorrow. The company actually has 55.85 million shares outstanding, which is tad higher than the 61,984 shares moved today. Therefore, if a large player tips his/her hand, the stock could fall like a rock. Conversely, if a large player wanted in the stock, it could jump without much resistance given current owners are not engaging in any selling. It’s classic supply and demand, but you must understand that conditions like those noted above are very dangerous to any investor looking to make a quick buck. If you’re stuck in an illiquid stock your quick buck can disappear without you being able to escape.
The bottom line is that you should look at a number of factors when you see a stock that has significant price movement. Volume is one of the main factors to consider. Low volume stocks can move up or down very fast. It doesn’t mean a whole lot when $7,000 worth of a stock trades in a day and generates a significant return. Big moves based on minimal volume should trouble rather than entice you.