If retail investors buy, what do corporate insiders do?
A recurring theme of 2021 is the assertion that we have to take retail investors more seriously and that they have become a force to reckon with in financial markets. I have been arguing against this notion from the get-go, showing that retail investors really are unsophisticated money and that you cannot make money by following retail investors.
But it is an interesting exercise to contrast the behaviour of retail investors with the behaviour of the people who arguably know most about a company, i.e. corporate insiders. In a lovely little exercise, Sattar Mansi and his colleagues did just that. They looked at corporate insider trades in times when retail investors paid more attention to a stock. They used the well-known Google Trends function to measure retail investor interest in specific stocks over time, and they found that higher interest in a company by retail investors did have a material impact on insider trades, just not the one you would want to see if you are a retail investor. A one standard deviation increase in retail investor interest in a stock led on average to a 3.6% increase in insiders selling their shares and if they sold their shares they on average sold 3,204 shares more than normal. Meanwhile, the likelihood of corporate insiders buying shares declined by 4.3% and if they bought shares, they bought c1,500 shares less than normal. In other words, corporate insiders were keen to take the other side of the trade from retail investors.
That in itself may not be evidence that retail investors really are patsies and shouldn’t be followed. But the study also showed that if you follow corporate insider trades in times of heightened retail investor interest in a stock, you do make some money. Selling with the insiders in times of high retail interest and buying with the insiders in times of low retail interest created a monthly alpha of 1.0%. So, can we please lay the argument that retail investors are a force to be reckoned with in markets to rest? Retail investors really are the patsies in the market, and the Robinhood crowd doesn’t even realise it.