Director Dealings as an Investment Strategy

Abstract

The Insider Trading Act of 1999 and Johannesburg Stock Exchange (JSE) regulations require transparency in director dealings. Directors are required to report all share trading in companies of which they are principals, and this information has been regarded as a signal to the market. We examine the value of this information, using 13 840 director trades and a portfolio time series approach from 2002 to 2013. Whereas most studies have used an event study methodology, we treat the problem primarily as an investment style, and using a trading rule approach we optimise the look-back and holding periods to show statistically and economically significant returns for investors who mimic director trades. When directors of companies report net acquisitions of shares over the preceding three months, investors who then purchase an equal weighted portfolio of the same shares, and hold these for four months, would have achieved an annualised return of 24.3% after transaction costs. When directors of companies report net disposals of shares over the preceding three months, investors who purchase a portfolio of the same shares, and hold these for three months, would have achieved an annualised return of 21.0% after transaction costs. Both of these strategies out-performed the comparable equal weighted benchmark return of 19.1% pa over the same period. We triangulate these results using an event-study methodology, and whilst we find similar results for investors following a directors’ purchasing strategy, the event study methodology shows that investors who purchase shares following a directors’ selling strategy would underperform. In both instances, the style analysis reveals that imitating directors’ trading lacked persistence after the global financial crisis of 2008, and we would not recommend either strategy.

Notes

1 Transaction costs were not included in the EWALSI at any stage, as investing in the benchmark was assumed to be a buy-and-hold strategy.

2 NB The figures shown reflect the final results after optimising all three variables.

3 For this analysis we excluded transaction costs (to improve the computation speed) on the grounds that these would be similar in all instances.