Cluster Buys - a vital signal when tracking directors' dealings

Monday, Oct 21 2013 by
Cluster Buys  a vital signal when tracking directors dealings

Keeping a close eye on the share trading activities of company directors can offer some excellent pointers to where those share prices might be heading next. But while details of “directors’ dealings” are widely available, it’s essential to know precisely how to use them and what to look for if you’re ever going to profit from boardroom buying.

Researchers have spent years studying what happens when directors buy and sell shares in the companies they run. Unsurprisingly, the great weight of evidence shows that when they buy their own shares, the price tends to rise over subsequent months. And why wouldn’t it? In theory, company insiders, particularly senior directors, ought to be the best judges of their own stock’s future prospects. So when an FD or CEO buys a meaningful chunk of shares in their own company, it may be reason for regular investors - or outsiders - to take a closer look. For smart money investment firms, this is an entirely plausible way of playing the market and specialist funds that track directors’ dealings are nothing new. Indeed, in 2010, a hedge fund called Swiss Investment Managers was set up to solely invest on the back of directors’ dealings.

Reading between the lines

Unfortunately, while the premise of taking a lead from directors sounds like a useful investing strategy, it hits trouble when you realise that not all directors’ dealings tell the same story. Neither do they all have the same impact on share prices. To illustrate this, it’s worth quickly exploring one of the biggest areas of confusion in directors’ dealings - the moment a director actually sells shares. For many investors, news that a board member is offloading stock can be tantamount to treason but it may not always be bad news. While it’s difficult to argue that a director selling stock is giving anything other than a negative message, research shows that generally these sales don’t damage share prices permanently. The fact is that a high proportion of director share sales are used to fund things like school fees, new houses, messy divorces and reduce portfolio exposure - and the market frequently acknowledges this.

Meanwhile, share purchases by directors are frequently interpreted as value-driven decisions designed to make a profit. But even here, researchers have found that it’s important to scrutinise the size and value of the purchase, who the director is and whether the trade…

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Square Mile Junky 2nd Jan '14 1 of 1

I agree that directors purchases are a good indicator if they are meaningful - and we all have our definition of what constitutes meaningful. When a company has had a hammering in share price and the directors do not buy at these 'screaming buy' share prices this also sends a signal to the market. Interpretation of that signal depends once again on what is happening with the company. For example if there is reason to believe the company is in a close period because of imminent results, or maybe some rumoured farmin activity for example then shareholders might just forgive the directors for not taking advantage of an abysmal share price. Chariot Oil and Gas shareholders gave the BOD a tough time because there were senior guys on the BOD who had not bought shares in the company - this has now been rectified and the CEO bought a second tranche recently. The signal for me is that the bottom has been put into the share price - but it will take more than additional directors purchases to get the company share price motoring once more. I guess the game is to see the signal before everyone else does... :-)

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