Insiders Are Buying Heavily
But does it matter?
November 17, 2008
by Jonathan Moreland
[DISCLOSURE: Readers should assume that all stocks mentioned in this column are owned by the author and/or his firm unless otherwise noted.]
It’s a bad time when I find it necessary to focus so hard on top-down issues affecting stocks, rather than executing the bottom-up, insider-inspired, fundamental investment approach that has served me well for nearly two decades. But that remains the case today. There’s just no ignoring the fact.
The fear of a more bearish spike north in my Insider-Based Market Indicator that I voiced in my September column has certainly been playing out. Thankfully, my top-down concern in the “Recommended List” section of my newsletter — TheStreet.com InsiderInsights — was listed as 40 percent cash during the two worst weeks of October. But as many CPA Insider™ readers may already know, the top-down call is trickier now.
Prior to 2003, substantial market bottoms tended to correspond with the rolling four-week average of my buy/sell ratios inflecting downward after rising to at least positive 40 percent or so (see chart). After a torrent of insiders buying their shares, we are now finally above that level. Also constructive is that the market has shown some technical signs of being in a bottoming process.
But these facts do not allow me to pound the table that the bottom is definitely here. It could be, but as my chart also shows, my ratios rose far above positive 40 percent on several occasions in just the past decade. During those additional surges, the market continued to be weak.
While bulls now have legitimate technical and insider-related metrics to argue a bottom with, bears can weigh their argument for another leg down with economic and company earnings stats that are clearly awful. More to the point, the enormity of the crisis that continues to unwind logically should keep economic stats trending negative for many more quarters. If the decline turns out to be more than a garden-variety recession (over before it is even officially declared), then it seems impossible to avoid further market weakness.
And what of bull’s argument that stocks represent enormous value after the recent collapse? It’s absolutely true, but that’s still not enough of an argument to go “all in” in this market. It’s a sad fact that the best way to own a deep-value stock in this market is to buy a value stock — then wait a week.
It has been obvious for months now that what is considered “value” has been in the process of being defined down. Solid stocks that used to trade for 18-times earnings, eight-times Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA) and two-times sales may look cheap now that they are trading at two-thirds of those levels. But your clients can’t base value today on what was considered value a year ago.
Even if (and it’s a big if) this same firm’s earnings and sales are growing at the same pace as last year, the pall over the market can make the shares get cheaper yet. After all, six-times trailing EBITDA and four-times EBITDA look just as stupidly cheap for our last general example if your clients view its metrics online, or in a research report. But it’s a painful difference if they own the stock.
If your clients are long-term investors with a three-to-five-year investment horizon, they can feel free to bottom fish in earnest now. But most investors honestly don’t have the nonchalance — not to mention liquidity — to shrug their shoulders when their newest long-term value bet casually gives up another 20 percent or more the week after it’s made.
That’s a real risk now, in my opinion. And it’s why I’m choosing to use the heavy insider buying now to build up a watch-list of firms to potentially invest in, when the market gets healthier — not jumping in wholesale now.
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Jonathan Moreland is the Director of Research at New York-based InsiderInsights.com. View a FREE trial issue of the firm's weekly newsletter InsiderInsights.