Insider trading is a largely misunderstood term in India. Historically, it has been quite hard to prove but with advanced methods of surveillance employed by the exchanges and SEBI, many such cases get easily highlighted. However, not all insider trades are illegal and not all insider trades amount to insider trading. Let us understand this subtle difference better.
Insider trades versus insider trading
An insider trade is referred to any trade in the stock market put by the directors of the company, promoters, relatives of promoters, relatives of directors and KMPs (key management personnel). The KMP refers to specific categories of employees like the company secretary, internal auditor, business heads etc who have access to privileged information. Hence all trades put by them above a threshold are classified as insider trades (on that particular stock). This is perfectly legal and it is only essential that the person must take prior approval of the board and the compliance department before taking positions in the stock. Even derivative trades are covered under this definition. These are covered under the SEBI SAST regulations and such disclosures are made to the exchange on an EOD basis.
Insider trading refers to making use of such information to take positions in advance of the announcement and profiting from it. Again existence of profits is not essential. Even if the insider information is leaked to someone else and they act upon it, it is still an insider trading violation for the person connected to the company. In short, insider trades are legal and part of the game while insider trading is illegal and punishable under SEBI Insider Trading regulations.
Understanding insider trades with live illustration
Insider trades refer to the buying and selling of company securities by corporate insiders such as promoters, CEO, managers or specific executives. Insider trades can be both, legal or illegal. If there is no attempt by the insider to benefit from advance access to information about the company, then the trading is perfectly legal. The condition is that the insider must not act on such information before it comes into the public domain. For example, if a promoter of a company purchases or sells shares based on a pending merger announcement or the failure of a merger then he is guilty of illegal insider trading.
However, if he buys shares after the company has announced the merger publicly, he is not engaging in illegal insider trading.
- Manaksia Aluminium Company Limited : Vineet Agarwal has bought 20,000 shares through Market Purchase on March 20,2019.
- Rama Steel Tubes Limited : Naresh Kumar Bansal has bought 20,000 shares through Market Purchase on March 22,2019.
- S H Kelkar and Company Limited : S H Kelkar Employee Benefit Trust has bought 93,950 shares through Market Purchase from March 20,2019 to March 22,2019.
Insider Sells :
- Asian Paints Limited : Dani Charitable Foundation has sold 253,620 shares through Inter-se-Transfer on March 20,2019.
- Bharti Infratel Limited : D S Rawat has sold 15,000 shares through Market Sale from March 19, 2019 to March 20, 2019.
- Edelweiss Financial Services Limited : Kalpana Kiran Maniar has sold 20,000 shares through Market Sale from March 19, 2019 to March 22, 2019.
- Edelweiss Financial Services Limited : Raviprakash Ramautar Bubna has sold 340,000 shares through Market Sale on March 19, 2019.
The above are insider trades as disclosed to the exchanges under the SAST regulations of SEBI. This disclosure is mandatory and you can just visit the SEBI announcements or NSE / BSE announcements section for a list of such SAST insider trades.
Can we draw inferences from insider buying and selling?
Consistent buying by promoters and insiders is normally seen as positive for the stock if it happens at prevailing market price or at a higher price. But investors should be sceptical if promoter stake rises on the basis of valuations as a result of some merger or acquisition that are not reasonable. Companies that display significant insider buying, especially near 52 week highs have been observed to outperform the benchmark. However, the analyst or investor needs to be cautious about lesser known companies where promoters may be cornering the shares.
One can also infer cues from insider selling. Quite often promoters liquidate their stock holding to raise capital for business expansion or personal use. Such actions don’t mean that the promoters are in a mood to abandon the ship and should not be perceived as negative. However, if you see a lot of KMPs selling in the market on a consistent basis, it is a signal that something is amiss in the stock. Most likely, the insiders know something about the stock which the general market does not know. Here are some pointers for use.
- Check if the insider trades are resulting in a significant change in promoter holding. It helps to gauge the insider sentiment and hence the future stock price movement.
- Investors should look for clusters of activity by several insiders. If more insiders are trading in similar direction, it is a sign of a consensus of insider opinion.
- Normally, selling near 52-week low is a cause of concern while buying near 52 week high is an inherently positive signal. Give more weightage to large trades than to small trades.
- Insider trading cannot be a strategy. You should use it as a last level checklist only if you are convinced about the fundamentals of the stock. First complete your due diligence on a company ahead of the investment decision.
What to be wary of in interpreting insider trades
Insiders probably know more than the others but their trading activity may be driven by different considerations. Often, large ESOP holders sell part of their holdings to diversify into other asset classes like realty, gold, bonds etc. This is not exactly a negative signal for the stock. However, scanning insider trades certainly offers a handy last level screener for investors looking for good investment opportunities. Hence it is always better to use insider trading data for confirmation rather than action.