Corporate officers at a handful of big-name firms have been shunning and often selling their companies’ shares recently, raising concerns on Wall Street about a correction in stock prices. But an informal survey of stock market strategists shows many discounting some potentially worrisome insider-trading data.
Unlike the trading that sent ImClone’s Sam Waksal to jail recently, this type of insider trading is legal as long as it isn’t based on any proprietary information that company outsiders don’t see. Information about insider selling is recorded for public scrutiny in various federal filings.
Analysts see insider data as a good indicator of whether a company’s stock is undervalued or overvalued. An insider is often in the best position to know how their corporation and overall business sector is performing, the thinking goes, and so if they sell their company stock it is seen as bearish.
Some on Wall Street have take the recent insider data as an indication that corporate executives are not buying into the notion that the U.S. economy is primed for a second-half turnaround and will further propel the stock market higher along with it.
In a remarkable rally from mid-March to mid-June, the Standard & Poor’s 500-stock index, a broad measure of the market, has risen 25 percent on hopes for stronger economic growth.
But an informal survey of stock-market strategists shows some don’t believe that the recent data are necessarily a bearish indicator, although most do concede that the data are worrisome. They argue that tracking shareholder trades is not always a correct predictor of where the market is headed, and that many insiders may have finally found a window of opportunity to sell after a three-year bear market.
“Typically, this data would be a bad sign for the stock market, but in this instance, given the current circumstances, I think you can discount it,” said Steve Massocca, head of trading at Pacific Growth Equities in San Francisco.
“For a lot of corporate executives and officers, company stock is a significant percentage of their compensation,” Massocca continued. “And for a very long period of time there hasn’t an opportunity for them to sell because the market has been so lousy, so there was some pent-up selling out there that has been able to come to the market and I think we’re seeing some of that.”
Definite lack of interest
Company executives at firms like software giant Microsoft and Wal-Mart, the world’s largest retailer, who were snapping up shares in their own companies at the market’s low last spring, have shown a definite lack of interest in their companies’ stocks lately.
According to Thomson Financial, a research firm that tracks insider transactions at corporations, the dollar-value ratio of insider selling to insider buying was more than $32 to $1 in July, the highest level seen since May 2001 and the third month in a row that the ratio has exceeded $20 to $1 — a level that means company insiders sold $20 worth of stock for every $1 of stock they bought. Typically, the sell-buy ratio is $15 to $1.
“Over the last decade, when there’s a buy to sell ratio that’s over $20, 10 out of 15 times you see the market decline an average of 6 percent six months later and 9 percent 12 months later,” said Kevin Schwenger, an analyst with Thomson Financial.
The technology sector has shown the most bearish insider signals lately, Schwenger said, adding that that the high ratio of selling to buying reflects an absence of buying, not a sudden surge of selling.
“Hesitancy is the best word for it,” Schwenger continued. “It looks as though company executives are tasking a wait-and-see approach and are taking profits where they can. And in terms of buying, executives are not confident.”
Another important factor in the data is the greater scrutiny placed on company executives in the wake of last year’s Sarbanes-Oxley Act, which makes company executives more accountable for any misdeeds at their firms. Many executives might have wanted to wait for a strong rally to take profits, Massocca said.
“Company officers probably didn’t want to appear to add fuel to the fire when the markets were doing so badly, so there’s a political reason for the selling,” added Massocca. “I wouldn’t say I’m not worried, but I don’t know how predictive this indicator can really be at this time.”
Selling not always negative
Corporate insiders typically make decisions about buying or selling their own company’s stock based on their company’s fundamentals, but the reasons for the selling are not necessarily negative, according to Kent Engelke, markets strategist at Anderson & Strudwick in Richmond, Va. They may sell stock to raise cash, for tax reasons or estate planning, he noted.
Andrew Lapthorne, global quantitative strategist at Dresdner Kleinwort Wasserstein in London, sees seasonality in the data. “Company directors are restricted in the periods in which they can trade; they can’t do any selling in the earnings reporting season, for example, so there’s an opportunity here in August for them to unload their stocks.”
“But you could have people sitting on other losses over the last three years of a bear market and now they’re seeing an opportunity to sell,” Lapthorne added. “But if you’re supposed to be getting 4 percent GDP growth in the third and fourth quarters, it’s interesting why they haven’t waited a bit.”
Chip Hanlon, chief domestic strategist at Euro Pacific Capital in Newport Beach, Calif. and avowed bear, agrees, but notes that there are other bearish indicators in the market.
The Vix index, a gauge that measures volatility on the Chicago Board Options Exchange, is showing extreme complacency on the part of investors, implying they are not willing to pay a premium for options protection. Hanlon also said recent sentiment surveys show an extreme number of market participants are bullish about the market’s outlook.
“Everyone has been promised a recovery in the second half, so if the economy doesn’t do anything but shine I think the market will be sorely disappointed.”