Another Top Gainer Energy Stock

• Ian Wyatt
• On 5:00 pm EDT, Thursday October 1, 2009

I know this might sound a bit perverse, but I've been looking forward to a nice, big down day for stock prices. Of course, if you're bullish, you're on the lookout for a dip to buy at a better entry price. And today, some of my favorite stocks are cheaper than they were yesterday. But that's not really why I was looking forward to a big, red candlestick on the charts.

No, I was hoping to get an opportunity to have a look at some of the small cap stocks, and the rule for buying these stocks is to pull the trigger after they've taken a hit. And because we know that small cap stocks tend to outperform larger capitalized companies on both the upside and the downside, we should be looking at some pretty substantial one-day declines.

In late afternoon trading, the Dow Industrials and the S&P 500 have put up losses of 1.9% and 2.37%, respectively. The Nasdaq, which has outperformed both indices lately, is off 2.8%. We might expect the Russell 2000 small cap index to be down more, and it is, off 2.87%.

But that doesn't tell the whole story. Let's once again peruse the Top Gainers list. The first thing we see is that, while there are some double-digit winners, their gains are capped in the +20% range. And of these, the quality seems lower than usual. Take Chelsea Therapeutics (NasdaqCM:CHTP - News), for instance.

The stock is up a solid 26%, to $3.17 a share, but the news behind the move is, um, interesting. In mid-September, Chelsea was a $7 stock. Then the results from its hypotension drug trials came in and whacked the stock down to below $2. It recovered to $3, and then formed one of those bull flag patterns we looked at yesterday.

Today, the company announced that the first trial, the one that failed and devastated the stock price, was flawed. A new trial will show the efficacy of the drug much better. And there you have it - a 26% jump.

There are a bunch of low liquidity bank stocks on the Top Gainers list, but that's standard fare. With the exception of an IPO from Talecris Biotherapeutics (Nasdaq: TLCR) and a repeat of a REIT I discussed the other day, Roberts Realty Investments (AMEX:RPI), there's only one stock that looks interesting - RAM Energy Resources (NasdaqGM:RAME - News).

RAM received an upgrade from an analyst who believes the current price, $1.56 a share, could double to $3 based on the relative valuation of other O&G companies. I wonder if he saw the debt load RAM carries. That $255 million in debt is more than double trailing 12-month revenues. Still, energy is hot, and RAM might be able to turn it around. And even at $3 a share, you can't exactly call the stock richly valued.

So now, where are all the companies we've been accustomed to seeing on the Top Gainers list? Why, they're over on the Top Losers list...

There's Astrotech Corp (NasdaqCM:ASTC - News), down 21%. We find Discovery Labs (Nasdaq:DSCO) down 13%, along with China Cablecomm (NasdaqCM:CABLU - News) and our old friend Luna Innovations (NasdaqGM:LUNA - News), down 11%.

Does this mean these stocks are all dogs? No, of course not. What it shows us is that you have to be very careful when you buy a breakout move that puts a stock on the Top Gainers list. I was skeptical of the big breakout from Luna that carried the stock to $2.59 a share because the news didn't represent a fundamental improvement to the company. And now that the stock has dropped to $1.89 (a 27% drop), we can clearly see what the risks are.

One strategy you might employ is to keep a watchlist of interesting stocks that make the Top Gainers list, and then wait for them to fall back to more reasonable prices. If they form bullish technical patterns, like the bull flag we discussed yesterday, you can buy ahead of the next pop and avoid watching your breakout stock sink 27%, like those who jumped all over Luna.

Ian Wyatt is the founder of Business Financial Publishing and author of the book, "The Small-Cap Investor: Secrets to Winning Big with Small-Cap Stocks." You can learn more about his book at http://www.smallcapbook.com, read his blog at http://www.IanWyatt.com, and follow him on Twitter at @IanWyatt.

Buzz up!