When a company insider buys or sells shares of their stock, a number of alarm bells go off across the markets. In the simplest expression, when they sell it’s bad, when they buy it’s good. But the reality is that it’s much more complicated.
Alexander Wissel takes a look at Fidelity Southern’s recent insider buying and what it tells us.
While the signals coming from insider transactions seem clear and transparent, the reality is that they are anything but. Many investors use both the buying and selling to gain insight into the real value of a company. After all, who knows it better than those working there?
Insiders know whom – and by how much – the books are cooked by, they know if the new product is a dud, or if customers can’t seem to get enough. In short these are the best analysts of a company: the insiders.
But they can give mixed signals.
Insider Selling Not Always What it Appears
Many investors will look at insider selling as a clear negative signal to dump shares. And most times they are completely wrong.
There are a million different reasons an insider could be selling their shares.
They might have alimony or child support, college bills for children, IRS payments, divorces, a new beach house, a second home, a new sports car, etc… you get the point. Like any normal person they have needs and bills and selling stock is an easy way to pay for them.
Also it should be noted that many executives receive a large portion of their salaries in stock and stock options. Redeeming these shares is simply part of their income stream and means nothing in respect to the company’s growth potential.
You could look at Joseph D Mansueto, Chairman & CEO of Morningstar (NASDAQ: MORN) for a perfect example. This morning it was reported he sold 8,500 shares for a total of $417,605. It’s a substantial sum until you consider he has over 25 million shares and regularly sells a similar amount every few days.
Don’t get me wrong here, there are a number of well documented cases – Enron comes to mind – where the insiders knew what was up and were bailing out left and right. But this represents a minority of companies. Insider selling is not a clear enough signal for investors to use for trade confirmations.
Insider selling should trigger warning bells when it’s widespread or out of proportion to their position size.
Look at Position Size
Perhaps even more telling is the position sizes of company insiders. When a CEO making tens of millions adds $100,000 in company stock to their portfolio it’s relatively insignificant. But when a director making $150,000 purchases $100,000 in stock, it should get your attention.
For the Director, their investment represents a large portion of their income, and much more risk to them. It’s a clear signal that they are taking a large risk on the future prospects of the company.
Directors and company insiders are just as human as you or I and have the same inherent weaknesses. They too can be caught up in an exploding stock price and rush to jump on the bandwagon. It’s why when you see recent insider buying in a company that is making new highs you should take it with a grain of salt.
Yes, their investment is a positive sign they believe the stock will continue to move upwards, even with the recent rise. This can lend some support to investors questioning whether they should add to a position, or open a new one in an extended stock.
The Clearest Message from Company Insiders
One of the clearest messages you can receive from company insiders is a purchase of a flat-lined, negative, or out of favor stock. Just a few days ago we got one of these from Rankin Smith over at Fidelity Southern Corp. (NASDAQ: LION).
The stock has been moving sideways side late February. After doubling in value from its post-crash basement levels of $2.55 a share, it’s now sitting around $5.75 today. A far cry from its highs of over $19 a share in 2007, this regional Mid-Atlantic bank is dealing with the same fallout as the rest of the banking industry.
There are a number of reasons we like this purchase as a trading trigger. This purchase of 174,825 shares at just about $1 million was special. Prior to this trade he’d bought anywhere from a few hundred to a few thousand shares, with his total share ownership only registering 42,578. This represented nearly four times his prior commitment. I’d say that’s a strong vote of support for future increases.
And he’s not the only one. Over the last two months almost a dozen insiders have been scooping up this stock – before and after its recent increase. It’s why we expect LION to keep on roaring upwards.
Because while there are many reasons an insider may sell, there is only one reason an insider buys stock in their company: they expect it to go up.
Disclosure: Full Disclosure: No positions in any securities mentioned above.