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Don't get too excited when insiders buy stock

Published June 16, 2006

When an executive like Michael Dell buys about $70-million worth of his company's stock in one of the largest individual share purchases of its kind in recent history, that gets people talking. But it shouldn't necessarily get people buying.

Insider transactions are something that many stock market watchers like to monitor. The thinking goes: If people in the know are scooping up or selling stocks, then maybe other investors would be smart to follow their lead.

That strategy may look great on paper, but in practice it's not as reliable as one might think. In some industries, the performance of stocks after big insiders' moves fall short of the broader market, says a new study from Morgan Stanley.

With Wall Street plagued lately by mounting concerns over rising inflation and slowing economic growth, investors are doing what they can to navigate a choppy market. As a result, stock picking has become increasingly important. When investors can't count on the broader market to give them much in the way of return, they search for individual stocks that could potentially have something to offer.

Maybe that's what Michael Dell is thinking, too. Shares in his namesake company, Dell Computer Corp., where he serves as chairman, have taken a beating over the past year, plunging from a 52-week high above $41 a share to now trade about $25 apiece.

According to Thomson Financial, its forward price-earnings ratio is 37 percent below its five-year average and is 44 percent below its major competitors in the computer business.

Apparently, Dell thinks this as an attractive time to buy, and did just that with his purchase last month of more than 2.9-million shares of Dell common stock for an average price of $23.99 a share - his first purchase of common stock since 2001.

Dell Computer declined to comment on Michael Dell's purchase, saying it was a private investment.

But investors interested in Dell or any other company with big insider activity might want to take note of the Morgan Stanley study. It judged the probability of success from using insider trading as a buy signal at 52 percent, meaning it would make you money only about half the time.

And as Morgan Stanley's chief investment officer, Henry McVey, points out, while "aggregate levels of purchases are good signaling mechanisms, the devil is in the details ... certain insiders are poor buyers of their stock."

"Not all management is 'smart money,' " McVey said in a recent report to clients. "Our best guess is that these insiders may have been attempting to bolster confidence by buying their own stock, even if they knew the fundamentals were lackluster."

Insider selling, meanwhile, also often isn't predictive of a market downturn. That's because some stock sales may just be routine or may be executives wanting to free up money to cover personal expenses or to help pay the taxes on shares they buy after exercising options.

It's too soon to tell whether Michael Dell made the right bet. But just blindly following his money might not provide investors with a guaranteed payout.

Rachel Beck is the national business columnist for the Associated Press. Write to her at

[Last modified June 16, 2006, 06:29:45]

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