Company Insiders Disguise Equity Sales With A Cautious Approach To Deter Predatory Short Sellers


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Company directors, executives or major shareholders, fearing that their personal stock sales will trigger aggressive short selling from investors who follow their moves, disguise their trades with a cautious and incremental approach often spread over several days, according to a new study from the University of Bath.

The School of Management’s study confirmed concerns that business insiders are managing the size and timing of their actions to deter predatory short sellers. He found that regulators need to be aware of these prudent business strategies when trying to identify illegal insider trading.

Likewise, short sellers may benefit more from identifying these cautious trading strategies rather than simply reacting to aggressive one-off sales from company insiders. In short selling, an investor who thinks a stock is going to fall can borrow it and sell it in the open market, then buy it back for less money later to make a profit.

“Company insiders are legally permitted to buy and sell shares of the company and any subsidiaries that employ them once their transactions do not use material non-public information,” said Dr Hanwen. Sun from the School of Management.

“Nonetheless, it is difficult to decipher the trading activity of corporate insiders, who are widely considered to have an informational advantage over other shareholders or stock market participants. However, they are increasingly faced with challenges of sophisticated investors such as short sellers employing an ‘order flow trading strategy’, which is primarily based on insider advantage and reduces potential insider profits, ”she said .

Sun said there is growing evidence that short sellers learn from insider order flows and trade accordingly. This trend was forcing insiders to develop a more strategic approach to staying profitable, spreading their stock sales over several days rather than one big package over a single day.

“Our model predicts that insiders tend to adopt a conservative trading strategy – spreading their trades over time and reducing initial sales – when they expect short sellers to use order flows. to predict trading patterns. Their goal is to mask these order flows and frustrate these markets. players, ”she said.

Sun said the research suggested that sales of additional shares by directors, officers or major shareholders of the company may reflect private information that has not yet been revealed in the price. “A careful sale over several days can help hide transactions based on insider knowledge,” she said.

Sun said the empirical evidence and results were built using the recording of all registered corporate insider sales from 2010 to 2019 on Thomson Reuters, as well as short daily volumes from the Financial Industry. Regulatory Authority (FINRA), a private company that acts as a self-entrepreneur. – regulator of member brokerage firms and stock markets. The study found that 84% of insider trading strategies were “aggressive”: sales made in one day, while the rest were “cautious”: sales made in consecutive days.

The study also looked at EDGAR search volume right after insider reports. EDGAR, the electronic data collection, analysis and retrieval system, performs the automated collection, validation, indexing, acceptance and transmission of submissions by businesses and others who are required by law to file forms with the United States Securities and Exchange Commission (SEC). .

The EDGAR SEC Server keeps log files for all web visits and each log file provides the IP (Internet Protocol) address of the request. He found that, on average, conservative strategies received 1.20 more IP visits in the first two days since insider filing, and that these excessive IP visits were associated with short high volumes over the five days following IP visits.

“These results help us further support our hypothesis that short sellers are actively exploiting insider selling trading opportunities,” Sun said.

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More information:
Dingwei Gu et al, Strategic Insider Trading: Concealing Order Flows to Avoid Business Competition, Corporate finance review (2021). DOI: 10.1016 / j.jcorpfin.2021.101891

Provided by the University of Bath

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