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Jonathan Moreland

Inside the Markets: Insiders Are Saying 'Buy'

But not right now.

January 22, 2008
by Jonathan Moreland

DISCLOSURE: Readers should assume that all stocks mentioned in this column are owned by the author and/or his firm unless otherwise noted.

With the market indices signaling obvious bear-market behavior, most CPA Insider™ readers would agree that going heavily long now is only justifiable for long-term investors with at least two-year investment horizons. If your clients fit this profile, company insiders are offering as many interesting bottom-feeding ideas as you can eat, in just about any sector you care to taste.

Thinking retail? Try on Hanesbrands (HBI). Restaurants? Execs at Darden (DRI) are already feeding on their shares. ShoreTel, Inc. (SHOR) looks interesting in the tech arena. Warren Buffett’s Berkshire Hathaway is sticking with its (so far losing) bet on building materials play USG Corporation (USG). And financials? Don’t get me started. The insider buying is everywhere in that sector. For my money, Northstar Realty Finance (NRF) is still one of the more interesting longer-term plays here.

However, if your clients are looking to make money in the coming month, raising cash and selectively shorting will likely prove more profitable — or at least less costly than going long. Federal Reserve Chairman Ben Bernanke’s intra-meeting statement earlier this month (which basically promised that the rate cut in the upcoming Fed meeting will make up for their conservative action in December) couldn’t buoy the indices. That was clearly bear market behavior.

Since an economic slowdown hurts most companies’ fundamentals more than “loser money” can help them, rate cuts are only good news to the extent that they stave off economic weakness. But that it appears increasingly unlikely to happen.

Backing a bearish bent, all of the shorts I’ve made in the past month (as the market became obviously miserable) have been profitable. In stark contrast, only two of the nine “values” I’ve bet on to rebound over the past three months are in the black.

That’s a miserable win rate. My insider service has averaged far below the 60 percent rate of being correct since its inception. I am also accustomed to my winning positions earning me more than double what my losers cost me. But that metric of performance has also been turned on its head as of late.

These recent stats are very telling, and they are not telling a happy tale for bulls in the near term. The strategy of “buying the dips” — which has worked for several years even as the global imbalances were growing obvious — seems dead for now. The pall over the market is trumping whatever longer-term bullish signals insiders are sending in their individual stocks. Sure, two years from now most of the recent insider purchases will likely end up being profitable. But there is no hurry for shorter-term investors to follow insiders into their bottom-feeding choices.

How long the bearish trend in this market will last, no one knows. I am on record as expecting my Insider-Based Market Indicators (see yellow oval in chart below) to rise solidly into positive territory again at some point, as they commonly did before 2003. If past is prologue, such a move in my Indicators would also likely correspond with severe market weakness. With so many of the economic imbalances built up over the past years now reversing, a macro argument can easily be made for more negative market action now.

Of course, perma-bears started ringing the alarm about imbalances years ago, and they missed out on plenty of upside. Imbalances seem finally to “matter,” however, and a growing concern for shorter-term investors in U.S. equities is that normally reliable metrics of value that used to indicate a bargain stock, may now be entering their own period of not mattering. Again, that would be bear market behavior.

Whether or not there is a lasting bear market in store, the near-term trend for the indices appears negative. Even if the oversold bounce I had expected in December finally happens now, I would be suspect of its lasting power. As of this writing, I’m up to 33 percent cash, and adding more short positions.

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Jonathan Moreland is the Director of Research at New York-based Insider Insights.com.
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