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When insiders buy stocks, should you?

May 29, 2013: 10:40 AM ET
Five board  members of oil exploration giant Apache bought several thousand shares in the first quarter.

Follow insider buying: Five board members of oil giant Apache bought several thousand shares in the first quarter.

This article was published in the June issue of Money magazine.

By Paul R. La Monica

Insider buying doesn't get as much attention as selling, but it can point you to good values.

With the S&P 500 near record highs, you're seeing a surge of insider selling. Normally the dollar value of selling tops buying by 8.5 to 1, according to TrimTabs Investment Research. In the first quarter, the ratio reached 10.5 to 1.

Just because insider profit taking is swamping purchases, though, doesn't mean you should ignore the buyers. When executives or directors buy company stock in a rising market like this, that can be a strong endorsement. "Insiders tend to buy more when stocks are undervalued," says Ben Silverman, director of research at InsiderScore, which studies insider transactions. You can find the latest transaction data from the SEC at CNNMoney.com.

Go beyond the raw numbers, though, and follow one of these three strategies:

Think big and cheap

David Miller is a manager with the Catalyst Funds, which runs several portfolios that focus on heavy insider buying. He says that drastically undervalued blue-chip stocks with a high level of insider purchases tend to do well soon after the buying takes place.

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One such large-cap company, according to Miller, is the oil exploration giant Apache (APA), where five board members bought several thousand shares in the first quarter. Another is Icahn Enterprises (IEP), the diversified investment firm of financier Carl Icahn, where the insider buyers include Icahn himself. Both are trading at price/earnings ratios of around 8, based on projected 2013 profits.

Think small and overlooked

Miller says investors should also take note of small companies that aren't closely followed by Wall Street analysts and where insiders are buying -- especially high-level execs. Silverman of InsiderScore agrees. Among the stocks he highlights: building products manufacturer Patrick Industries (PATK), which trades at a P/E of just 7.8 even after soaring more than 50% over the past year.

Think brand name

Kissan Joseph and Jide Wintoki, professors at the University of Kansas School of Business, studied insider transactions between 1986 and 2011 and found something interesting: Companies with significant buying activity and big advertising budgets outperformed shares of companies with insider purchases but relatively little marketing.

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Why would that be? Joseph suspects that insiders at businesses that are prominent advertisers may have more relevant information about consumer spending trends -- information that can help move their stocks.

With this in mind, I looked for companies that fit this bill. I found recent insider buying activity at Bank of America (BAC), which just launched a big ad campaign, and General Motors (GM), where CEO Dan Akerson bought 25,000 shares in February.

Send a letter to the editor about this story to money_letters@moneymail.com.

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Paul Lamonica
Paul R. La Monica
Assistant Managing Editor, CNNMoney

Paul R. La Monica is an assistant managing editor at CNNMoney. He is the author of the site's daily column, The Buzz, and also tweets throughout the day about the markets and economy @LaMonicaBuzz. La Monica also oversees the site's economic, markets and technology coverage.

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