Insider Stock Buys | Best Indication Of A Buying Opportunity?

insider_tradingfunnyThere’s a reason why some insider stock buys are illegal: our financial system would be patently unfair if certain individuals had sure-fire tips on what companies were going to do before the general public did. Everyone from Martha Stewart to Jeffrey Skilling has bent the rules to get a hot stock tip, and they have paid the price for it.  Yet, what many people don’t  realize is that insider trading news is readily available to the public, so that even the small-time investor can track insider buying and insider trades, and follow up as appropriate to pad his/her account.

Basically, buying stock when insiders do works because when executives, directors or others with an intimate knowledge of a public company are buying or selling shares, it is often a tip-off that the company’s fortunes are about to go in one direction or another. Such insider trading activity has been shown again and again to serve as an accurate barometer of large shifts in the market.

This is because so-called insiders have the best information about their companies. They have knowledge far beyond the general public’s regarding trends, orders, supply, costs, etc. They are, in essence, far ahead of the outsider analysts who tend to behave as if they know what is truly going on inside of a given company.

It should not be concluded, however, that a person should base all of his or her investments on the actions of one specific insider from given company. Trends should be identified among insiders; if enough insiders take action, then a truly significant movement of a stock value can result.

In addition, it has been proven by researchers (most notably Nejat Seyhun, University of Michigan) that stock prices rise more when insiders buy rather than sell, and that insiders have higher returns than those of the overall market.

Here is a list of  insider trading activity which should encourage a closer look, but be sure not to base your investment decisions solely on these:

  1. When newly appointed executives or directors make required purchases of their companies’ stocks. Some companies will even provide stock loans to execs at half their purchase price. Neither of these common actions should be taken as a harbinger of future growth.
  2. When an insider will proclaim his/her intentions to buy stock simply to get the attention of Wall Street. Such proclamations do not always equate to actual purchases, and they need to be monitored carefully to ensure that true follow-up takes place, i.e., actual buying.
  3. When insiders sell in large numbers. This does not necessarily mean that a company is on a bad path. It could mean that the insiders wanted to diversify their portfolios, take a luxurious trip somewhere, or settle their debts in a nasty divorce proceeding. When an insider sells, the reason for that is rarely known. Don’t always take a sale as a bad sign.
  4. When employees buy large numbers of stock options. They might be buying simply because the price is unbeatable, not necessarily because the company is about to take off. Such mass purchases are not often reported as such circumstantially specific buys, so the public is not aware of why such a large movement took place. Don’t misread such moves.

How can you best follow insider trading activity? Here are a few tips:

  1. Executives, especially the CEO and CFO, are usually better readers of a company’s fortune than the directors. People who actually run a company have a pretty good measure of its pulse.
  2. Solitary trades are usually insignificant. Think about jumping on board if three or more insiders make a move—that is true insider buying.
  3. People who work at small companies have more information than those at giant enterprises. Keep a keen eye out for insider trading activity which comes out of small- and medium-sized companies.
  4. Don’t expect immediate movement after insider rumbling. Studies have shown that insider trading activity precedes big company news by as much as two years. That is because insiders do not want to be accused of illegal insider trading.

How can you follow the latest insider stock buys? That’s the easy part. Numerous websites offer their version of the most reliable insider trading report. Do your research and find a site or two which produce a consistently accurate insider trading report, then compose a strategy based on what you discover.

 

 

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4 Comments

  1. Good post Jim! Watching some of the activity by those in the “know” can be an invaluable tool, but like you said, should not be the only tool you use. It has the potential to bring some insight, but has to be balanced with what else is going on with the company.

  2. Jim says:

    Thanks John, yep it is important to use insider trades as a just an arrow in your proverbial “quiver of knowledge” to help you measure your risk. Thanks for your insight!

  3. Jim, thanks for a great article! We are just now learning about investments, and topics like this are a great help!

  4. Jim says:

    Good deal, I am glad you found value in the post, I am eager to follow you to learn more about life on the farm. Got a small hobby farm of my own, would love to maximize its benefits and your posts will certainly help point me in the right direction. Thank you!!

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