Why Insider Buying Is a Good Sign and How To Analyze It

One of the most positive signs an investor or trader can see is when insiders are buying their own stock. For years, insider activity has been one of the most important signals to investors covering a stock. Insiders have a privilgegged position within the company, and while you shouldn’t follow insiders blindly, there are several advantages  

Here are some main reasons why insider buying is a bullish signal and how to analyze it.

Why insiders buying is an excellent signal for investors

1. Insiders know more about the company

Insiders are in a highly privileged position since they work in the company and have many more insights than the average investor. They can understand whether or not the company will do well in the future and even determine whether the next earnings will be positive. Therefore, they can understand better whether or not the stock is likely to move higher or lower in the short term.

2. Insiders know more about the industry

Not only are insiders more knowledgeable about the company, but they also have a lot more insights about the industry. They may notice specific trends or changes that will benefit the company and then buy the stock. This is another reason investors should monitor insider buying and why it can be such a bullish signal.

3. Insiders may sell for many reasons, but they buy only for one reason

One of the most impactful quotes by Peter Lynch is that insiders may sell for many reasons, but they only buy for one reason. Insiders can sell their shares for personal reasons, to fund other investments, or for other reasons. However, when insiders buy shares in the company they work for, they do it to make money because they think the stock will go up.

How to analyze insider buying

When analyzing insider buying, there are 3 main factors that you need to consider to determine whether or not it is a bullish signal. Here are the 3 questions you need to ask to help you analyze insiders buying stock.

How many shares does the insider own?

The first question you need to ask is how many shares the insider owns. There are usually two types of insiders, depending on the size of the company. One of the most common is a company’s founder or co-founder who owns a significant stake in the business, and it may acquire additional shares even if the stock is going to decline in the short term.

Insiders with significant ownership may buy additional shares to hold them for the long term. While this does not mean that the stock will decline in the short term, it is not bullish in the short term.

Some insiders do not own any shares or may trade them occasionally. This is where you can get a lot of short-term bullish signals. An insider that barely owns any shares and is buying additional shares in the short-term means that he or she knows that the company is doing well or the earnings may be better than expected. 

This is extremely bullish, and insiders are known for having more information than other shareholders. Additionally, an insider with a significant stake might buy and sell stock to adjust his portfolio. Still, an insider that barely owns any shares will only invest in his company stock to make money in the short term. 

How many insiders are buying?

The number of insiders buying shares is also another signal to look for. If it is only one insider buying shares at a large company with a high number of insiders, it will not be as bullish as a dozen insiders all buying stock at the same time.

The bullish insider buying signal is when multiple insiders are buying shares around the same time, this can only happen because they know something about the company or industry that is bullish.

What are the insider’s net worth and salary?

Another aspect to consider, which may not be easy to figure out, is the insider’s net worth. An insider with a net worth of $50 million buying $50,000 in shares is not as impactful as an insider with a net worth of $500,000. Another aspect that you can consider if you cannot find out the insider’s estimated net worth is to analyze his salary in comparison with the number of shares he or she is buying.

An insider willing to invest a large amount of money relative to his salary in the company would be extremely bullish. While an insider buying just a small percentage of his or her annual salary will not be as bullish.

How much is the insider buying?

Lastly, you need to consider how many shares the insider buys and the dollar amount. While this is a substantial number to consider, it always needs to be compared with the current amount of shares owned, as well as the salary or net worth of the individual.

Conclusion

Insider buying stock remains one of the most bullish signals investors can use when researching and deciding which stocks to invest in. Monitoring insider activity in the stocks you are invested in can also be advantageous to understanding if insiders are buying or not.

It is also crucial to identify and analyze when insiders buy to determine whether or not it is impactful, and to determine how the stock might react in the short term.