Following corporate insider transactions can be a profitable investment strategy – if you know what you’re doing. After all, who knows the inner workings of a company better than its senior officers, directors, and significant shareholders?
However, not all insider trading is created equally. Some insider transactions don’t indicate sentiment. Consider an insider exercising share options or cashing in stocks for a kitchen renovation. These are uninformative trades that are not worth following.
We wanted to explore who are the best insiders to follow, and whether this changes according to different criteria.
To find out, we took a deep dive into our data, which we extract from the SEC where insiders are required to report trades, to see which has the best performance.
Which Trades We Tracked
Investor Peter Lynch famously observed “Insiders might sell their shares for any number of reasons, but they buy them for only one: they think the price will rise.”
For this reason, we focused on Buy transactions. We excluded ‘uninformative’ trades from our data as we only wanted include those that indicate sentiment.
Our research covers the annual average profit of transactions measured over a five-year period.
Which Insiders We Tracked
We tracked the transactions of the following insiders:
- CEOs – Chief Executive Officers
- CFOs – Chief Financial Officers
- Other Officers – eg., Chief Operation Officers, Chief Accounting Officers, Vice Presidents, Presidents, and other executives
- Directors – non-executive leaders in the company
- 10% Shareholders – often institutional investors
Who Makes the Best Trades?
Our research showed that informative stock purchases by CFOs are the best predictor of a future rise in stock price. If you had followed the transactions of CFOs, you would have achieved an average return of 21.5%. Directors came in second place, making an average annual return of 20.7%. Other officers made an average return of 19.8%, while CEOs came in fourth place with 19.3%.
Our study also showed that tracking shareholders who hold over 10% of a company’s shares, usually institutional investors, is the worst strategy. Those investors achieved 12% average returns, underperforming the S&P 500 by 1.8%.
However, it’s not so simple. This data covers all sectors, market-cap, and performance. It becomes more interesting when we look in more detail.
Best and Worst Overall Performance By Company Size
We wanted to investigate whether the size of a company makes a difference when it comes to insider transactions. For example, do corporate insiders in larger, more established companies perform better?
Our research discovered that insiders from medium and small cap companies made the best overall returns, significantly beating the market. However, if you are tempted to follow insiders from micro-cap companies, you may want to think again. They underperformed the S&P by almost 10%. It could be that their transactions were an attempt to build trust, that did not pass the test of time.
Which Insiders Made the Best Trades By Company Size?
We’ve seen that CFOs have the best returns overall. Does this mean that the safest bet for investors is to follow CFOs?
Not necessarily. If you had followed the transactions of 10% owners of medium-sized companies, you would have made a rather impressive average annual return of 56.8%. This of course contradicts our early discovery, that overall 10% of owners have the worst returns. Insiders in microcap companies could be the cause of this, with an average annual return of -6%. Below you can see the average profit range of insiders according to company size, from the insiders with the lowest average profit, to those with the highest. In each case, you can see which group of insiders generated the highest average return.
In Which Sector Did Insiders Make the Highest Returns?
Insiders from the Basic Materials sector made the best overall returns, an average of 18.3% above the sector average. They were followed by insiders from Consumer Goods, with an average return of 8.9% above the sector average. Other sectors fared less well when compared to the sector average with both insiders from technology and utilities underperforming.
How You Can Incorporate Insider Transactions Into Your Stock Research
TipRanks gives you 3 ways to leverage insider transactions
1 Incorporate insider trading activity into your stock research
2 Search for new investment ideas based on insiders’ transactions with our Insiders’ Hot Stocks screener
3 Follow the transactions of corporate insiders, see the top 25 insiders according to TipRanks and follow the experts of your choice.
