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Insider Trading and How To Profit From It!

We want to talk a little about legal insider trading for a minute, because we have seen interesting things happening lately that should be discussed. When someone mentions insiders making buys or sells, all kinds of flags go up. But it is perfectly legal and ethical for insiders at corporations to sell some of their holdings and buy more when they think the time is right. The real point is "what is the motive?" That is what you (we) all need to try and perceive. Let's say you are offered a senior management position and in ... read more

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We want to talk a little about legal insider trading for a minute, because we have seen interesting things happening lately that should be discussed.

When someone mentions insiders making buys or sells, all kinds of flags go up. But it is perfectly legal and ethical for insiders at corporations to sell some of their holdings and buy more when they think the time is right. The real point is "what is the motive?" That is what you (we) all need to try and perceive.

Let's say you are offered a senior management position and in your contract you get 50K shares of company stock after 2 years of service. Nothing out of whack there. Then let's say you are there for 5 years and decide that you want to buy that house up in the mountains. Is there anything wrong with selling 30K shares? Nope, not at all, it was after all part of your pay package.

On the other hand, let's say we see 3 insiders sell most of their holdings in their own company, just a month before earnings season. Does that raise a flag? Yup. When insiders are selling enmasse, it often spells trouble. Think about it. Except for a few well placed sales now and then, there isn't a lot of reason for insiders to be selling unless they don't see any good reason to hold it!

On the other side of the coin, we know of only two reasons that an insider buys his own company's stock. One is that the company puts him up to it. Yes folks, don't be shocked, companies have been known to pressure executives to buy company stock just to give the illusion that the stock is so attractive the insiders are buying it. But, it's generally only a few shares (10K or less) and a few people.

The other reason an insider will buy is that he genuinely believes the stock will appreciate in value. Well, no one has a better view of the company than the people running it right? If insiders are seeing good sales trends and can relate those trends to rising earnings, it makes perfect sense to buy some stock! Now, don't confuse this with stock "buy backs" that we are seeing now and then. A company buy back is a much different animal. It's still a "positive" but not nearly as telling as insiders deciding to buy 100K shares of their own stock.

How can you use this info? Scan the filings folks. If you see two or more insiders buying 40K or more shares of their own stock, we can almost bet you that in the next few months that stock is going to be higher. We saw it happen sometime back with NXTL. We told you that almost 100K shares were purchased by an insider, and "boom" they beat the estimates huge, spiking the stock by 60%. This guy "knew" and it's perfectly legal.

So, when you see insiders buying more than "token" amounts of stock you need to watch that stock. Likewise if you see insiders selling like they are all in a panic to get out, you need to avoid it or maybe even short it. No one knows their own business better than an insider and if they are bailing, you should too. You can also check for insider selling and buying at Yahoo.com, just punch in the stock symbol and then scroll down and look for "insider".

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