The term insider trading brings up a lot of negative connotations. Most people are familiar with some of the more notorious cases of illegal insider trading, like the Ivan Boesky case or Martha Stewart’s.
Poor Martha was the subject of many jokes on late night television. Conan O’Brien said, “When reached for comment on the charges, Martha didn’t say much, only that a subpoena should be served with a nice appetizer.” Jay Leno joked, “Martha Stewart had an interesting show this morning — she showed how to make bail.”
Should investors be concerned with insider trading? Absolutely — people trading illegally on inside information can harm individual investors. But, not all insider trading is illegal. Corporate insiders, defined as a company’s officers, directors and major stakeholders, are allowed to buy and sell company stock as long as their trades are disclosed and they are not acting on material, non-public information.
Monitoring legal insider trading activity can be a useful tool for stock analysis. It has been said that insiders will sell for a lot of reasons, but they only buy for one reason, that they think the price of their stock will go up.
The two main schools of stock analysis are fundamental and technical. Fundamental analysts study a company’s financial statements and look at items like revenues, expenses, assets and liabilities. They make investment decisions based on valuations and growth projections. Technical analysts study past price movement; they consider trading volume, price action and use a variety of techniques including moving averages, stochastics and oscillators.
What role does insider trading play in stock analysis? Well as I mentioned before, insiders may sell for a wide variety of reasons, so heavy insider selling may not mean that much.
On the other hand, above average insider buying could be worthy of consideration, especially when there is some divergence occurring. Divergence means that the price of the stock is falling while there is a noticeable increase in insider buying. That tells us that while the public has decided it’s time to sell, corporate officers on the inside think it’s a good time to be a buyer.
There are no sure fire 100 percent accurate methods of forecasting stock prices because there are too many variables to consider. Monitoring insider trading activity can be a useful tool when coupled with solid fundamental research and studying supply and demand with past price action.
Kenneth Roberts is a Truckee-based Registered Investment Advisor. Information on his money management service can be found at his blog at www.sellacalloption.com or by calling 775-657-8065. Past performance does not guarantee future results. Consult your financial adviser before purchasing any security.