As the Coronavirus crash unfolds, watch for high conviction buying by corporate insiders. Smart money putting skin in the game.

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The emerging Coronavirus pandemic has blindsided a bubbly stock market with sudden, unprecedented uncertainty. But uncertainty breeds opportunity. As volatility rocks the markets, watch for high conviction buying by corporate insiders to signal value in individual stocks.

As I wrote Monday, aggregate insider buying had yet to reach extreme levels associated with major correction bottoms since 2008. However, the last couple of days have brought a steep increase in buying by officers and directors. We’ll see what the WhaleWisdom Insider Sell vs Buy Ratio shows at week end.

There’s nothing like a sudden double-digit correction in the stock market to make us value investors. When TSLA, Amazon, AAPL — and hundreds of other stocks –levitated continuously higher, most investors paid nary a thought to value. I mean, who cares what Tesla’s really worth when you’re making an 800% annualized return? But when TSLA drops by a third over a week’s time, complacency is replaced by anxiety. It begs the question: What’s this company’s actual value? And when the entire S&P 500 gives up 11% in a week, then gyrates wildly, the question becomes: What are any of these stocks really worth?

Anchoring bias. What is a stock really worth?

When forced to determine value in the absence of information, humans have a strong tendency to assign a value, no matter how illogical. “Anchoring” is a term from behavioral finance which refers to the hardwired human tendency to use the first information received as basis for value. When we’re making a numerical estimate, we’re often biased by the number we start with. You know, the used car salesman says a car is worth $40K. That value sticks in your head and you’re happy with the “deal” you get buying it for $35K. Meanwhile, the dealership’s cost is $25K…

For many (most?) investors buying a stock, the anchor is the price they pay. Future investment decisions are then associated with that value. If a stock falls, there is a strong compulsion to wait for break-even. That’s another concept from behavioral finance, the Disposition Effect. It’s not shocking that when investors latch on to an arbitrary price as the anchor for their fair value estimate, they’re obviously asking for trouble. An Intelligent Investor needs a better anchor for his or her fair value estimate.

For value investors like corporate insiders, their anchor is the true or intrinsic value of the company underlying the stock.

Value investors have a different anchor of value than price — the true or intrinsic value of the business underlying a stock. Businesses, unlike stock prices, are tangible. So if one calculates that a business is worth x based on assets, cash flows, earning growth, etc., then a value investor’s strategy is to buy when price is at some discount to x and sell when price is at a premium to x. The term “margin of safety” refers to the discount between the price an investor pays for an asset, and its true value. As the margin of safety increases, risk declines, and profit potential increases. A value investor’s conviction level increases as the margin of safety widens. If you knew a given company was worth $30 per share as a private business, and it’s suddenly trading at $20, what would you do? You’d buy aggressively.

Which brings us to corporate insiders. Due to their intimate knowledge of their own companies, insiders — especially C-level executives — have access to superior information. And when insiders trade, of course they do so based on their unique knowledge. Also, unlike talking heads on the financial news, corporate insider buying reflects smart investors investing skin-in-the-game. There is nothing like putting serious money at risk to prove one’s conviction in an investment.

Corporate insiders are long-term value investors. They are long-term because insiders are prohibited by law from short-term trading. The “short-swing profit rule” is an SEC regulation that requires company insiders to return any profits made from the purchase and sale of company stock if both transactions occur within a six-month period. So insiders have a minimum 6 month investment horizon.

Right now, as stocks take a hit from the pandemic scare, smart money insiders are carefully assessing the pandemic’s potential effect on their businesses. If a stock trades at a big discount to the businesses’ real world value, they are buying. If you see an insider “backing up the truck” for big purchases, you may want to join them in the trade. As stocks drop, watch for high conviction buying by corporate insiders.

Here’s what to watch for when analyzing insider’s form 4 buying.

But there are hundreds of insider trades every week. What constitutes a significant insider purchase — which filings represent high conviction buying by corporate insiders? Here are a few things to watch for:

  • Large dollar buys $500K+.
  • Purchases that are much larger than past buying by a given insider.
  • Insiders with a successful buying history, now buying again.
  • Buys that represent a large % increase of the insider’s previous position.
  • Cluster buying. This is when multiple insiders at the same company buy.
  • Purchases by C-level insiders. Tandem CEO-CFO buys can be particularly bullish.
  • Insiders with a long history at a company that have never before bought shares on the open market, but are now buying.
  • Big adds by 10% holders. Though they are considered insiders by the SEC, 10% holders may not have the same access to information as the CEO and CFO. But there are exceptions. Large additions to positions by smart fund managers are noteworthy.
  • Small cap buying. The smaller the company, the more predictive its insider activity.

You can follow insider buying at the SEC’s Edgar website or at sites like WhaleWisdom.com.

Now, do all insider transaction with the above attributes lead to profits? Of course not. And insiders, like all value investors, are often early. It’s not uncommon for insiders, directors and 10% holders to scale-in purchases during volatile times. However, for the astute investor looking for value anchors in a crazy market, using high conviction buying by insiders as a starting point for research makes a lot of sense.

Here is a list of high conviction buying by insider transactions from the last week. Again, do your homework and scale-in gradually, particularly on down days, when building positions.

High conviction Large Cap buying by corporate insiders. Greater than $1 billion market cap. $500K+ purchase & 20%+ increase in position by insiders.

Filing DateCompanySymbolIndustry# InsidersTrade Date Total Shares Avg. Price Total 
03-Mar-2020Palo Alto Networks IncPANWNetworking & Communication Devices102-Mar-2020                   16,229 184.98 $       3,002,056
03-Mar-2020PNC Financial Services Grou…PNCMoney Center Banks128-Feb-2020                   24,168 123.49 $       2,984,506
02-Mar-2020Morgan StanleyMSInvestment Brokerage – National128-Feb-2020                   50,000 44.97 $       2,248,735
03-Mar-2020Verizon Communications Inc.VZTelecom Services – Domestic128-Feb-2020                   18,839 53.47 $       1,007,321
03-Mar-2020Huntington Ingalls Industri…HIIAerospace/Defense Products & Services102-Mar-2020                     4,000 207.92 $          831,665
02-Mar-2020Foundation Building Materia…FBMOther127-Feb-2020                   42,054 15 $          630,837
03-Mar-2020Chevron Corp.CVXMajor Integrated Oil & Gas128-Feb-2020                     6,551 91.43 $          598,983
02-Mar-2020Douglas Emmett IncDEIREIT – Diversified128-Feb-2020                   15,000 38.95 $          584,274
03-Mar-2020Dow Inc.DOWOther128-Feb-2020                   15,000 38.13 $          571,950
03-Mar-2020Humana Inc.HUMHealth Care Plans128-Feb-2020                     1,785 319.68 $          570,629
02-Mar-2020Advansix Inc.ASIXOther128-Feb-2020                   34,400 14.37 $          494,328

High conviction Small Cap buying by corporate insiders. March 2 & 3. Less than $1B market cap. $150K+ purchase. 20+ increase in position.

Filing DateCompanySymbolIndustry# InsidersTrade Date Total Shares Avg. Price Total 
03-Mar-2020Huntington Ingalls Industri…HIIAerospace/Defense Products & Services102-Mar-2020                     4,000 207.92 $   831,664.94
02-Mar-2020Foundation Building Materia…FBMOther127-Feb-2020                   42,054 15 $   630,837.06
03-Mar-2020Chico’s FAS Inc.CHSApparel Stores228-Feb-2020                   99,800 4 $   399,083.75
03-Mar-2020Wisdomtree Investments, Inc.WETFAsset Management102-Mar-2020                 100,000 3.89 $   389,494.41
02-Mar-2020Jbg Smith PropertiesJBGSOther128-Feb-2020                   10,000 36.11 $   361,100.00
02-Mar-2020Pinnacle Financial Partners…PNFPRegional – Southeast Banks127-Feb-2020                     5,000 54.6 $   272,990.00
03-Mar-2020Bain Capital Specialty Fina…BCSFOther203-Mar-2020                   14,009 19.02 $   266,429.03
03-Mar-2020Hillenbrand, Inc.HIPersonal Services203-Mar-2020                   11,000 22.3 $   245,300.00
02-Mar-2020The Home Depot, IncHDHome Improvement Stores128-Feb-2020                     1,120 214.53 $   240,273.59
03-Mar-2020Central Pacific Financial C…CPFRegional – Pacific Banks102-Mar-2020                     8,265 24.35 $   201,233.53
03-Mar-2020Sonoco Products Co.SONPaper & Paper Products128-Feb-2020                     4,000 47.91 $   191,657.20
03-Mar-2020Pennantpark Floating Rate C…PFLTAsset Management128-Feb-2020                   17,000 10.81 $   183,810.80
03-Mar-2020Petroleum Development Corp.PDCEOil & Gas Refining & Marketing103-Mar-2020                   10,000 18 $   180,000.00
03-Mar-2020Noble Midstream Partners LpNBLXOther103-Mar-2020                     9,850 15.37 $   151,403.36
02-Mar-2020Technipfmc PlcFTIOil & Gas Equipment & Services128-Feb-2020                   10,000 15.11 $   151,100.00
03-Mar-2020Triarc Companies Inc.WENRestaurants102-Mar-2020                     8,014 18.74 $   150,169.53
02-Mar-2020Curo Group Holdings Corp.CUROOther127-Feb-2020                   15,475 9.64 $   149,174.36

Contact Mark about investing based on SEC filings and smart money disclosures.

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