Thursday, April 2, 1998
Insider Selling Flashes a Yellow Light for
Stocks
By Vito J. Racanelli
Being a bear has been a loser's game in the 1990s. Since at least 1995, the
usual suspects have warned that stocks were overvalued -- and the last three
years have been among the best in history, with the S&P 500 showing a
compound annual return of more than 32%.
Now, with the Dow Jones Industrial Average flirting with 9000, the bullish case
appears intact: Economic growth remains moderate, interest rates are low
and--most importantly -- inflation is well under control. Even the Asian financial
meltdown looks more and more like a blip for the U.S. economy.
But while the fundamentals look solid (except for slower earnings growth), a
new concern has emerged -- insider selling. Since February, many officials in a
wide range of industries have used the market's strength to reduce their
holdings of their own companies' stock. And people who watch these trends
say the selling has intensified beyond what's considered normal, suggesting
corporate officials are selling because they don't see much room for further
stock appreciation.
Bob Gabele, whose CDA/Investnet research firm closely tracks insider activity,
says "the February data show rapid deterioration in our Sell/Buy ratio."
Normally insiders sell roughly twice as many shares of stock as they buy, but as
of early March that ratio suddenly jumped to 3.1 to 1 in favor of sales, he notes.
Gabele points out that widespread insider selling began last August and slowed
down after the October selloff only to resume in February.
Richard Cuneo, editor of Vickers Weekly Insider Report, agrees, adding that
"very positive insider buying signals we had been getting since the October 27th
correction turned on a dime in February." The Vickers sell/buy ratio is currently
around 3.6 to 1.
And Cuneo finds the timing of the sales particularly troublesome, coming so
close to the time companies report quarterly earnings. "I never like to see this
kind of selling activity heading into an earnings period," he says. To Cuneo, the
selling indicates insiders are worried that investors will pillory their companies'
stocks if first-quarter earnings are anything but stellar. He believes the next
month or two could be a rocky time as those reports filter in.
Of course, insider activity is only one of several criteria gurus use to predict the
market's direction, and it's generally better for tracking individual stocks than
the market as a whole. Richard Barone, chairman of Cleveland-based Maxus
Investment Group, says that insiders are essentially value players. "For mid- to
large caps especially, when you see selling it means they don't see any more
value there."
Though Barone adds he isn't about to start dumping shares just because insiders
are pulling back a bit, he believes it is definitely a negative indicator. "It's not
necessarily a reason to sell, but it is an indication of overvaluation," he explains.
George Muzea, who runs the Muzea Insider Consulting Services out of Reno,
Nevada, also has some qualms of late. Though he calls himself "officially still
bullish," he, too, has noticed that the buy/sell ratio "has weakened a bit recently
as insiders sell into the market's strength." Muzea and the others will be
watching closely to see if the selling persisted into the latter part of March
when the market hit all-time highs. "The March data will be the most important
of the year," he says.
Which sectors could be hit hardest in a correction? Based on net insider sales
alone, medical suppliers and the hospital and health care industries are most
vulnerable, along with computer hardware retailers and companies in the basic
industries. On the other hand, real estate investment trusts, banks and financial
services companies and semiconductor manufacturers are continuing to show
strong levels of buying by corporate officials, according to several data services
that follow insider trading.
Some of the stocks that CDA/Investnet has identified as having potentially
significant insider selling in recent weeks include Lucent Technologies, Mattel,
Phycor, American Home Products, Netscape Communications and BMC
Software. Meanwhile, insiders are buying at Kansas City Power & Light,
American International Group and Union Texas Petroleum Holdings.
Gabele and others point out that with so many complex stock options plans and
limited "windows" to exercise them, insider activity isn't as pure a barometer of
sentiment as it used to be. And investors should be wary about latching on to
yet another sign of a market top that so far has just refused to happen.
But corporate executives -- the people who know their businesses best -- have
begun to take some of their chips off the table and bank some of the huge
profits they've made from their stocks' historic run.
Should other investors begin to do the same? |
