A Small-Cap Stock With Big Upside Potential - TheStreet

 DELAFIELD, Wis. (Stockpickr) -- Trading and investing in small-cap stocks is always a risky venture, especially if you don't know what you're doing. These stocks are much more volatile than large-cap stocks, and they will regularly make big-percentage swings, even without news to support such a move.

>>5 Blue-Chip Stocks to Trade for Gains

This is why I always stress to new traders that you shouldn't be taking oversized positions in small-cap stocks unless you're experienced in trading them. You don't want to get caught in a small-cap that's controlled by the sellers and starts to run down sharply against you.

On the other hand, when you find a small-cap stock with a good story and buying momentum, the profits can add up quickly if you trade it right and catch it before the momentum buyers move in. It's very important to practice sound risk management with small-cap stocks because they can trend the wrong way once momentum buyers jump ship. In other words, you must have a sound trading strategy in place and cut losses quickly if a stock starts to move against you.

So despite all the risks of trading small-cap stocks, they are also a vehicle for creating great wealth if you understand how they work and how to trade them. One great way to do that is to use technical analysis and look for favorable high-probability chart patterns. This will help to cut your risk profile and get you into low-risk entry points before the momentum buying begins.

>>5 Stocks Under $10 Set to Soar

One small-cap stock that's quickly moving to the top of my watch list is Liquid Holdings Group (LIQD) , which provides proprietary cloud-based trading and portfolio management solutions primarily in the U.S. This stock has been slammed lower by the sellers so far in 2014, with shares down huge by 78%.

Liquid Holdings Group builds a software platform for large asset managers such as hedge funds and prime brokers that allows the client to manage the entire transaction lifecycle in real time for absolute clarity and accuracy. The platform focuses on things such as order and execution management, pre-trade compliance, real-time risk management, shadow accounting and private cloud and managed services. The company's software is also built for proprietary trading desks.

Liquid Holdings Group is a speculative stock with a market cap of just $86 million and an enterprise value of $80 million. This stock trades at a premium valuation, with a price-to-sales of 20.1 and a price-to-book of 1.46. Its estimated growth rate for next year is 43.5%. The company has $2.32 million in cash on its balance sheet and no debt. Liquid Holdings recently announced the pricing of a secondary offering of 32 million shares of common stock at $1.25 per share.

During its last quarter, Liquid Holding Group's customer base grew 55% to 119 customers. Total contracted software units jump 16% to 762 units. Software services revenue increased 41% quarter over quarter to $1.3 million. The company said software services revenue increased in the first quarter of 2014 to $1.3 million, or by 41%, from $0.9 million during the fourth quarter of 2013. Their GAAP net loss for the first quarter of 2014 increased to $8.2 million, or 33 cents per diluted share, vs. a net loss of $7.6 million or 31 cents per diluted share in the fourth quarter of 2013.

One of the big reasons that Liquid Holding Group is high on my list for big upside potential for a small-cap stock is that some big funds and company insiders have started to step into the stock recently and take on large stakes. They clearly see value in this stock as it trades at its current depressed levels.

One firm, MSDC Management, recently bought 6 million shares of LIQD, which equates to a passive stake of 10.6%. MSDC Management was set up to run hedge funds with capital from outside investors along with capital from billionaire Michael Dell. MSDC management is an investor advisor backed by MSD Capital LP, which was founded in 1998 to exclusively manage the investments of Michael Dell and his family. Another big fund, Federated Investors, recently took a 13% passive stake in Liquid Holdings Group. Federated Investors is one of the nation's largest investment managers, with $366.2 billion in assets under management. A director at Liquid Holdings Group also recently bought 1.8 million shares, or $2.25 million worth of stock, at $1.25 to $1.35 per share. Another beneficial owner also recently bought around $8 million worth of LIQD stock at around $1.25 per share.

If you consult the chart for Liquid Holdings Group, you'll notice that this stock has been downtrending badly so far in 2014, with shares moving lower from over $7.50 to its recent all-time low of $1.20 a share.

Image placeholder title

<P/>During that downtrend, shares of LIQD have been consistently making lower highs and lower lows, which is bearish technical price action. That said, shares of LIQD have started to stabilize a bit around current levels and this stock has recently formed a double bottom chart pattern at $1.40 to $1.38 a share. If that bottom can hold, then shares of LIQD have a great opportunity to trigger a major breakout trade soon above some key near-term overheard resistance levels.

Traders should now look for long-biased trades in LIQD as long as it's trending above those double-bottom support levels or above its all-time low of $1.20 and then once it breaks out above Friday's intraday high of $1.56 and then above some more key near-term overhead resistance levels $1.64 to $1.72 a share with high volume. Look for volume on that move that hits near or above its three-month average action of 871,706 shares.

If that breakout materializes soon, then LIQD will set up to re-test or possibly take out its next major overhead resistance level at $1.99 a share. Any high-volume move above $1.99 will then give LIQD a chance to re-fill some of its previous gap-down-day zone from May that started above $2.50 a share. This stock could easily tag $3 to $3.50 a share if that gap gets filled with volume and momentum buyers start to step into this name soon, so keep shares of LIQD on your small-cap trading radar.

-- Written by Roberto Pedone in Delafield, Wis.


>>3 Huge Stocks on Traders' Radars

>>5 Stocks Set to Soar on Bullish Earnings

>>Move In to Hedge Funds' 5 Favorite REITs This Summer

Follow Stockpickr on Twitter and become a fan on Facebook.

At the time of publication, author had no positions in stocks mentioned. Roberto Pedone, based out of Delafield, Wis., is an independent trader who focuses on technical analysis for small- and large-cap stocks, options, futures, commodities and currencies. Roberto studied international business at the Milwaukee School of Engineering, and he spent a year overseas studying business in Lubeck, Germany. His work has appeared on financial outlets including CNBC.com and Forbes.com. You can follow Pedone on Twitter at www.twitter.com/zerosum24 or @zerosum24.