Long-term investors with the stomach to stay in this market need to closely watch insider buying.
Right now, everybody is wondering whether the market has already bottomed after a garden-variety correction or whether this is just a small trip-up before a larger fall. Data can be trotted out to back either scenario, so arguing endlessly about this is a waste of time.
But as a professional follower of the insider data filed at the SEC, I have this take: Insider buying has been so persistent as the market has fallen that it would be very surprising if stocks with recent heavy insider purchases didn't move up nicely over the next two or three years. And that includes the battered financial sector, in which insider buying nonetheless remains strong.
That means that an investor with a long-term view that looks out at least two years can justify starting to buy back in now.
But are you really a longer-term investor? Would you really shrug off losing a quick 10% to 20% in a stock purchased today as anyone with a truly Buffett-esque investment horizon would? Or are you like most investors, who would probably kick themselves for the loss -- and for not waiting just a little bit longer to pounce.
While fashionable to want to "buy it like Buffett" and to deride the minions who agonize over a short-term loss, don't feel bad if you are in the latter camp. Warren Buffett would have no problem funding a large number of college educations with what is in his bank account, and his retirement plans wouldn't be too affected even if he lost a billion dollars. He also thinks he pays too little in taxes.
That's probably not your financial reality, nor is it my clients' reality. So for all of you (or, rather, us) mere mortals, it's perfectly rational to be as interested in short-term capital preservation as you are in long-term capital appreciation.
In Perspective
Which brings me back to the continued massive buying by corporate insiders during this correction.
Last week saw another positive weekly buy/sell ratio -- for only the second time in nearly five years. Firms with open-market Form 4 purchasers last week outweighed those with sellers by 12%, which brings the rolling four-week average of these ratios up to negative 2%. Negative 2% is the highest absolute level of this metric since early 2003, and the large number of quality insider purchases at firms listed in the bullish-new-finds table in my
InsiderInsights.com newsletter absolutely confirms the bullishness of insiders.
As fabulous as all this is, however, I am still in 50% cash, and I'm not advocating rampant bottom-fishing yet. That's because it is absolutely normal for my insider-based market indicators to become more bullish as the market sinks and as insiders naturally get more bargains to buy.
But more bargains don't equal a market bottom. That is usually signaled by my indicators inflecting downward after rising sharply. My rolling four-week average is already above the point at which it has inflected downward over the past three years (see the yellow oval on the first chart below). That puts us in uncharted territory and brings up a possibility that argues for being cautious right now.
Before 2003, sustainable legs up for the indices typically corresponded with the rolling four-week average of my ratios inflecting downward after reaching positive 20%, 80% or even 200%. The longer-term chart below of my indicators demonstrates just how common positive insider ratios used to be. If my ratios are indeed finally reverting back to pre-2003 levels, than another leg down for the indices is not just possible but probable.
The More Things Change ...
Spring 2003 was when the rolling four-week average of my buy/sell ratios headed south with such ferocity that I eventually felt the need to publish the below shorter-term chart to keep the new levels of inflection in perspective. But that wholesale change in the level of my buy/sell ratios back then has never been explained as far as I'm concerned.
I've heard other insider followers conclude that the sudden and persistent increase in insider selling was the result of option-related trades. But I presented findings in a column more than two years ago that rebutted that assumption.
What sticks in my mind is that that odd change in my longtime data set back in 2003 also corresponded with the advent of many of the economic imbalances that matter now. The housing bubble was inflating, and lending criteria loosened. Persistently low interest rates were fuelling the carry trade and related financial transactions. Excess liquidity was all that was needed to explain the market continuing to rally throughout 2003.
This was also the time when the U.S. current account deficit surged above the historically troubling level of 3.5% of GDP -- and even Mr. Greenspan didn't think it mattered.
Perhaps it's all starting to matter now, and my buy/sell ratios will once again spike into positive territory. I've speculated on that eventuality over the years and pointed out that a return to a positive rolling four-week average of the ratios would only likely happen if the market sold off sharply.
It's OK to Wait
So for all of us who have a legitimate reason to focus more on short-term capital preservation than the longer-term capital appreciation opportunities out there, the amazing amount of insider buying right now fully supports the conclusion that we should wait a bit longer before buying back in hand over fist.
What would get me to finally pour my (and my clients') money back in? A more obvious change in the market's technicals. Right now, the indices remain in a correction. Last week's gains didn't change that. Neither did the continued insider buying. Until proven otherwise, I think it's prudent to assume that the present market trend will remain intact. So while I'm absolutely using the fabulous amount of insider buying to build a watch list, I am still watching more than buying.
If the indices happen to crash while I'm still heavily in cash, then I'll have limited my losses and will have fresh ammo to go bargain-hunting with. And if the indices follow through into a new rally tomorrow, I'll move back into stocks in short order. Sure, I'll have missed the first few percent of any new leg up. But history has shown that insider-generated stock picks do particularly well in an up market. I think I can afford to play it a bit safe during these very iffy times for stocks.
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