Insider Trade Rules May Help Investors

New rules that greatly speed disclosure of company stock purchases and sales by corporate insiders should give an added edge to investors who use the information to help them gauge a company’s prospects, industry experts said.

The rules, which went into effect Thursday, require firms to report trades of company stock by officers, directors and majority shareholders within two days. That is a vast improvement over past rules, which allowed companies at least 10 days--and sometimes more than a year--to reveal whether their top officers were buying or selling their stock.

Company insiders are barred from trading shares when they are privy to significant information that is not public, such as a pending merger agreement or knowledge that the company is under investigation for wrongdoing, Securities and Exchange Commission spokesman John Nester said. Tracking the illegal form of insider trading is the main reason the SEC has always collected this data.

However, a large segment of institutional and individual investors also watch insider trades, considering them a sign of how a company--and its stock--may perform in the future.

“A prudent investor should consider executive trades as a piece of a complex puzzle that will help them determine a company’s prospects,” Nester said.

The reason is fairly obvious. Because corporate insiders are immersed in information about the focus, direction and day-to-day operations of their companies, they are among the savviest of all investors, said Norman G. Fosback, editor of the Fosback Funds Forecaster.

For that reason, many investors consider certain types of insider buying to be a signal to jump into a stock, whereas insider selling could be a warning that something is amiss.

“They are closer to the fundamentals than anybody else,” said Ron Ognar, a portfolio manager for Strong Funds in Milwaukee. “If I saw a number of insiders buying, that would mean something.”

Requiring companies to file information on insider transactions more quickly will enable investors to use the data while it is still timely. For instance, former Enron Corp. Chairman Kenneth L. Lay sold $70 million in company stock last year while the energy trading firm slid into bankruptcy. Those trades were not made public until February.

In general, experts say, insider buying is far more telling than insider selling. Why? Insiders sell stock for a variety of innocuous reasons. Executives often get stock through company benefit plans, such as employee stock-ownership plans, stock options and restricted share awards. That stock is considered a portion of their pay, and they may need to sell it to finance college for their kids, new houses or cars.

Then too, when insiders exercise stock options--buying company shares at a discount to market value--the insider trading reports often show them selling at the same time, said Ken Janke, chairman of the National Assn. of Investors Corp. in Madison Heights, Mich.

The reason: They have to sell some shares to come up with the cash to buy the new shares and pay the taxes on the gain they realized by buying the stock at a discounted price.

An executive who has built up a big stock position in his own firm also might need to sell some shares simply to diversify his holdings, Fosback said.

None of those sales could be considered a bearish signal about the company’s prospects, these experts agreed.

“You have to be careful about what you read into the numbers,” said Hugh Johnson, chief investment officer with First Albany Corp. in New York. “Treat this data gingerly.”

On the other hand, if there is a pattern of insider selling--particularly if the insiders are shedding the vast majority of their holdings--investors would be wise to be wary, Ognar said. It may well be a signal that the company’s insiders think the stock price is high, which would be a good time to lighten holdings.

Most significant of all are so-called open-market transactions in which executives buy shares with their own cash at going market prices, just like anyone else, Fosback said. These purchases do not need to be big to be telling, either.

“The number of shares they buy is usually just a reflection of the wealth of that insider,” he said. “What you are looking for is a number of insiders coming to the same conclusion that the company is a buy at the current market price.”

How can investors find information on insider transactions?

Companies now must file a Form-4--an SEC disclosure document showing how many shares were bought or sold, the insider’s resulting holdings and what type of sale or purchase it was--within two days of the trade. But because many companies still file these forms on paper, the statements are not posted on the SEC’s online investor database, known as EDGAR.

Still, a variety of stock research services pick up the data and rapidly pass it to investors through newsletters, e-mail and disclosures on investment Web sites.

The SEC will be requiring electronic filing of this data within the next several months, making it easy to find at the agency’s site, at www.sec.gov, Nester said.

Until then, investors can find the information at finance.yahoo .com. Enter the firm’s ticker symbol and the site will respond with stock prices and links for more information. Hit the “insider” link and it will display a list of recent insider stock transactions.