Why Insider Buying Is Not The “Bull” Signal You Think It Is.

Jason Carrell
Sep 2, 2018 · 3 min read

-Small dollar amount insider buying is often a red flag.

-Fraudulent management teams often buy small amounts of stock to signal confidence to the market.

-Short sellers (like us) scan the market for small dollar insider buying as a possible management “tell” (more on this below)

I know this seems counterintuitive, so let me explain. Obviously skin in the game is generally a good thing. When insiders are buying stock, that’s a strong signal to the market that insiders have confidence in the business. But that’s the issue — it’s a SIGNAL to the market and management teams know this. So small amount insider buying has become part and parcel of the fraudulent company’s playbook. Especially when a stock receives third party criticism for a lack of disclosure or for related party transactions, it has become common for management to make small dollar amount inside purchases and use this fact as the “evidence” that the criticism is unjustified.

Jeff Skilling (in)famously continued to buy small amounts Enron stock as a signal of confidence right up to the company going insolvent in what was the biggest corporate fraud in US history. In simple terms the strategy is essentially saying to the market “don’t ask specifics about the Company, I believe in the stock and you should trust me because I continue to buy the stock”.

So how do you know when insider buying is a good thing and when its just signalling? When looking at insider purchases we look at the value of the purchase vs. the insider’s current holdings and ask ourselves what is the likelihood the insider is genuinely looking to increase their holding and what is the likelihood the purchase is purely for market signalling purposes.

A live example (we believe) is the insider buying by Paul Pittman CEO and Chairman of Farmland Partners Inc. Pittman bought 1000 shares of Farmland Partners on 27th of June for $9.16 a share for a total consideration of $9,160. Compare that to Pittman’s 2017 CEO compensation of $1.1m. Also compare the 1000 shares bought with Pittman’s current shareholding of 1,189,786 shares (at the $9.16 share price these shares are worth $10,898,440).

In the case of Pittman, his 1000 share purchase increases his holding in the company by 0.08% and the $9,160 spent on the purchase is immaterial vs his 10m of holdings and 1.1m salary. We believe that if Pittman were genuinely looking to increase his position in the stock, he would purchase a much larger parcel of shares (he certainly has the resources). Given the very small acquisition as well as the strong negative noise around Farmland Partners — we see these nominal purchases as “signalling purchases” and nothing more. Is this enough for us to short the stock? Definitely not. But it does give us a powerful insight into the mind and behaviour of the CEO and Chairman and what lengths he might be prepared to go to prop up his stock. This information combined with the related party transactions, poor corporate governance, combined CEO/Chairman role and a number of other factors provides us with enough red flags to dig into the company and analyse the financials. Our short thesis was developed by reference to a number of factors and only after 100s of hours of research — but it started with Farmland Partners Inc popping up on a scan of companies that showed small dollar amount insider buying.

In my view, Insider buying is one of the least understood elements in equities markets — it can be a strong buy signal depending on the circumstances in which the buying occurs. But increasingly see it used purely for its signalling properties. As short sellers, we find the buying and selling behavior of the management team is very valuable information. When combined with other information available on a a stock, it provides powerful insight that can be used in the investment decision.

Nothing in this article is investment advice.

Welcome to a place where words matter. On Medium, smart voices and original ideas take center stage - with no ads in sight. Watch
Follow all the topics you care about, and we’ll deliver the best stories for you to your homepage and inbox. Explore
Get unlimited access to the best stories on Medium — and support writers while you’re at it. Just $5/month. Upgrade