Ignore Insulters of Insider Data, Pt. 1

There they go again.

Just because there hasn't been a market correction yet, talking heads are making excuses as to why the record bearish signal that insiders are sending en masse wasn't really that bearish after all. Some have also taken the opportunity to kick the indicator when it's down by saying insider data really aren't that useful anyway.

I take no personal offense. I'm just amazed at how often the data stream I know and appreciate is still so misunderstood.

Clear Signals

The insider signal being berated now is the overall buy/sell ratio of insider activity. It is in record bearish territory these days, and it has been for months. In the past, the buy/sell ratio has tended to indicate market tops and bottoms pretty darned well. This time around, though, the absence of a pullback in the face of the bearish signal has pundits labeling insiders as just a bunch of Chicken Littles.

There are several methodologies used to calculate insider buy/sell ratios. The most commonly reported ratio is probably the dollar value of insider purchases vs. sales. We've also seen used in ratios the raw number of purchase transactions vs. sales.

The ratio I present on the front page of each issue of my weekly publication is different still. I take the number of companies with insider purchases each week and month and relate that to the number of companies with sales over the same time period. I further modify the data by including only open-market purchases in the ratio calculations.

In my opinion, there are logical pros and cons to all the ratio paradigms. An easy criticism of each is that the popular dollar-value ratio overweights the importance of expensive -- generally large-cap -- stocks, while my method does the opposite. There are other, more involved patterns in insider data that would seem to support each methodology over another, but I won't get into that now.

The point is, by any of the usual methods of slicing insider data to get a buy/sell ratio, they're really, really bearish right now.

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At the time of publication, Moreland was long the UltraShort OTC ProFund, although holdings can change at any time.

Jonathan Moreland is director of research and publisher of the weekly publication InsiderInsights, founder of the Web site InsiderInsights.com and the director of research at Insider Asset Management LLC. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. While he cannot provide investment advice or recommendations, Moreland invites you to send comments on his column to [e-mail].