4 Tips for Trading Biotech Stocks

01/13/2015 6:00 am EST

Focus: ETFS

Joseph Fahmy

Managing Director, Zor Capital, LLC

For those traders considering the biotechnology sector, Joe Fahmy, of JoeFahmy.com, outlines four critical tips for a trader to be mindful of, long before even dipping their toe in the waters of this space.

The Biotech sector has been a leading group for years now. I get many questions on how to trade these stocks, so here are a few tips:

  1. Do not trade anything you are not comfortable with. There is nothing worse than being nervous in a position. Why? Because we tend to make horrible decisions based on emotions, rather than coming from a position of confidence and conviction. One of the biggest fears we have as traders is the fear of missing out (FOMO). We feel that everyone else is making money on something and we’re going to be left out. Keep in mind that there’s a big difference between what people say on Twitter and what they actually do. Most people are not trading these stocks. In fact, most people are not trading at all. Don’t let your emotions get the best of you.

  2. If you decide to dip your toe in the water, start with an ETF. Two Biotech ETFs are IBB and XBI. These are liquid ways to give yourself exposure to the sector without worrying about single stock risk.

  3. If you want single stock exposure, start with one of the Big-Cap names. Why? Because these stocks are highly supported by the large institutions, they have strong earnings and sales from their existing products, and they also have a huge pipeline of future drugs.

  4. If you have the risk tolerance to venture into the small-cap space, do your due diligence. This involves doing research, following the technicals, keeping track of option activity, and knowing what some of the sharp biotech investors are doing. In other words, you have to put in some time and work at it.

One final piece of advice: There is nothing wrong with starting small. For example, if you have a $10,000 account, a 1% position would be exposing $100 of your portfolio to an idea. If a position drops 20% (or even 50%) you would stand to lose $20 (or even $50). Personally, this is a risk I am comfortable with but every investor is different. In other words, know your risk tolerance, know your time frame, and do some work. Again, if you are not comfortable, there is nothing wrong with passing and sitting out.

By Joe Fahmy, Trader and Blogger, JoeFahmy.com

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