Stock traders may want to beware of small cap nickel spreads. This is a proposed change in trading penny stocks. Penny stocks have traded in one cent increments for a dozen years ever since the markets went to a decimal system instead of fractions for trading stocks. The proposal being floated comes from the major markets and from Citi Group and suggests that stocks with market capitalizations of less than three quarters of a million be traded in five or even ten cent increments. The argument is that a change to small cap nickel spreads would add liquidity to that section of the market as it would attract market makers in search of higher profits. Such a change could also be the death knell for those who currently make their money scalping in day trading on penny stocks. Basically a move to small cap nickel spreads would increase commissions and attract market makers who would in turn entice the average trader into this market sector. Perhaps we can rework the old Roman quote to say, let the trader beware.
Is Volume Good, and for Whom?
There is an old saying that a man visited a yacht club and gazed at all of the big and fine yachts. Who owns these yachts, he asked. Why, stock brokers own these fine yachts, was the reply. Then where are the investors’ yachts, the man asked. There was no reply. This proposal seems to us to be an attempt to inject money into the pockets of stock brokers and investment houses and not an attempt to make the market more liquid for the benefit of the average investor or trader. It could drive scalpers out of this section of the market as it increases the risk of a bad computerized trade.
Trading Volume and Growth?
The argument being floated is that somehow small companies will flourish and have more money to reinvest and grow if small cap nickel spreads become the order of the day. Day trading strategies will need to be readjusted. And some will simply disappear. Along the way market makers will work to attract new investors and traders and reap their rewards. To the extent that a given stock trades more frequently that does not profit a company. To the extent that increased attention to a promising stock drives its price up that could benefit a growing company and help it grow. One rational suggestion that has been floated regarding small cap nickel spreads is that there should be a trial period with a reasonable number of small cap stocks to see how this change would world in the real world. That is perhaps a reasonable suggestion.
What to Do?
Well executed technical analysis of stocks is the keystone of successful stock trading. Smart traders only trade when trading signals are highly in their favor. To the extent that a penny spread system encourages poorly thought out trades it may be time to go to small cap nickel spreads. On the other hand penny spreads provide liquidity that nickel spreads will not. If market makers really wanted to promote liquidity they would enter this section of the market and promote it, even with penny spreads. It seems to us that perhaps too many market makers are looking to buy bigger yachts.
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