mark@hulbertratings.com Special for USA TODAY 5/5/2016
CORPORATE INSIDERS SENDING BULLISH SIGNS
And if they’re right, Dow 20,000 is likely within next year
Here’s some welcome news for investors worried about recent market volatility: Corporate insiders on balance are giving stocks the benefit of the doubt. That is a bullish sign for their companies — and for the market in general.
A corporation’s insiders, of course, are its officers, directors and largest shareholders. We know when they buy or sell shares of their companies’ stock because they are required to immediately report their transactions to the Securities and Exchange Commission. Shrewd investors pay close attention on the theory that insiders know more about their companies’ prospects than do the rest of us.
You wouldn’t know the insiders are bullish from focusing on the raw data reported to the SEC, however. For example, Jonathan Moreland, director of research forInsider Insights newsletter, reports that in April there were 95% more firms in which insiders sold than bought.
But the raw data can be misleading, according to Nejat Seyhun, a finance professor at the University of Michigan and one of academia’s leading experts oninsider behavior. One reason, he said, is insiders almost always sell more than they buy. That’s because a big portion of the typical insider’s compensation comes in shares rather than cash, and he or she must sell those shares to pay for any big purchase. Such sales have little if anything to do with the insider’s confidence in his company’s prospects.
Purchases of stock made with their own money, in contrast, are a much less ambiguous signal of what insiders think about their companies. A good example is Jamie Dimon. The CEO of JPMorgan Chase sent a strong vote of confidence in early Februarywhen he spent almost $27 million buying 500,000 JPMorgan shares after the bank’s stock had tumbled 20% in 2016 alone. That turned out to be a turning point for JPMorgan shares — and the broader market.
The clearer motivation for open-market buying is why it’s important to compare the pace of recent insider purchases to historical averages. Before doing that, however, Seyhun says it’s important to strip out from the insider data those transactions undertaken by a firm’s largest shareholders. That’s because they on balance have no special insight into their firm’s prospects. Seyhun has found from research the insiders whose transactions are most worth paying attention to are a firm’s officers and directors.
Ignoring the largest shareholders’ transactions is especially important now, since they have been particularly heavy sellers as the market has approached its previous highs. And, since their transactions are typically so much larger than those of officers and directors, they otherwise dominate the raw insider data.
Upon adjusting the insider data for these and other factors, Seyhun calculates that, in recent months, 32% of the transactions from the most important insiders have been purchases. Because that’s higher than the historical average of 29%, he concludes that the insiders on balance are bullish right now.
Seyhun has devised a complex econometric model that uses the insider data to forecast the stock market’s likely performance over the next 12 months. It currently is projecting a 16% return, which translates into a Dow Jones level of greater than 20,000.
Insider transaction data are also helpful in drawing our attention to particular sectors that represent particularly good value. Now, according to Seyhun, the energy and technology sectors are two in which insiders are relatively most bullish. In addition, he said, insiders in small-cap stocks currently are more bullish than insiders in large-cap stocks.
A turning point for JPMorgan came when CEO Jamie Dimon bought 500,000 shares after the bank’s stock had tumbled 20% in 2016.
KIMBERLY WHITE, GETTY IMAGES FOR FORTUNE
Mark Hulbert
In the event I would ever agreed with a false opinion, then we would both be wrong!
