As we have covered numerous times on this blog, subject of insider trading is never too far away. It would be wrong to suggest that the authorities have not made progress but to suggest it is now under control is possibly stretching the truth. However, if insider trading is under control, why do we regularly see stock trading volume spike ahead of announcements?
Watch the volume
There are many ways in which you can pick the next stock for your portfolio, research, recommendations or simply following stocks which have higher than usual volumes. You can throw in all your research, public expectations and comments on the bulletin boards but good old-fashioned high-volume is worth its weight in gold. Why?
News will leak
When you bear in mind that any company transaction will involve an array of third parties such as:-
• Stockbrokers
• Analysts
• Printers
• Legal advisers
• Accountants
• Underwriters
To name but a few, it can get quite interesting when there is news in the pipeline. The general rule of thumb is that companies should announce all relevant news as soon as possible. This ensures that insider traders are not able to profit, on the upside or the downside, and it is a level playing field for all investors. So why does this not work?
It’s better to have travelled than arrived
There is an old saying in the stock market “it’s better to have travelled than arrived” which basically means that the most profitable movement in a share price often happens just ahead of an announcement. So on that basis there is more money to be made in the move prior to the announcement than after the announcement. It doesn’t always work that way but in general, news will leak, rumours will start and some investors will attempt to pre-empt an announcement.
The main issue is that companies are not able to announce deals, trading statements and the like until everything has been confirmed, cleared and approved by various parties. This takes time and during that time word can leak that an announcement may be in the offing. Very quickly these rumours can grow arms and legs and before you know where you are the share price has run ahead of itself. On occasion you will see share prices fall back dramatically if those trading prior to any announcement get caught out when a deal is cancelled or the expected announcement does not materialise.
Is this difficult to monitor?
There are various compliance departments around the world which monitor excessive volumes in stocks and will often investigate if these volumes occur ahead of important announcements. Unfortunately, insider trading is one of the most difficult crimes to prove and even though regulations have been tightened and definitions are now more watertight, it is not easy. If a compliance department for one of the worldwide stock market was to see excessive volumes in a particular stock they could push for an early announcement to clarify the situation. You will often see companies reacting to excessive share price movements with announcement to confirm (or deny) something is happening, maybe a takeover approach, profit warning or some other issue, which will be confirmed in due course.
These announcements effectively push everything into the public domain with all investors now aware there “may be something happening” behind the scenes. Next time you see excessive volumes in stocks you follow, just remember, there could be some news on the way, the direction of the share price will give an indication if it is expected to be positive or negative. Keeps your eyes peeled……