EVIDENCEFROMCHINESEMARKET：ISINSIDERTRADINGREALLYINFORMATIVE0326.ppt

,Equity StrategyIs Insider Trading Really Informative?-Evidence from Chinese Market,March 19,2012,Abstract:We use the insider trading data from January,2005 to February,2012 to implement our research.Our initial evidences show that(1)Insider selling is more frequent than Buying;(2)Managementis more actively at“buy”;(3)Insiders often buy at trough and sellat peak;(4)we find more frequent trading in SME and ChiNextmarket than in main board.For the window before trading announcement,we reportfollowing findings:(1)Chinese Insiders are contrarian investorsas well;(2)Insiders tend to buy the stocks when they areunder-valued and sell when over-valued;(3)Insiders tend to sellthe stocks that show bad growth potential but not necessarily buyeven if the stock shows high growth potential in fundamental.For the post-trade period,we have following findings:(1)“Buy”is far more informative than“Sell”;(2)“Buy”in non-main boardis more informative than in main board;(3)The buy or sell ofmanagement is more informative than that of largeshareholders;(4)The buy of management in SME or ChiNextmarket is the most informative,Corresponding AnalystJianbo Sun,Ph.D.Chief Equity Strategist：sunjianbo：(8610)83571306SAC Certificate No.：S0130511040002Xiaobin QinEquity Strategist,Director：(8610)6656 8746SAC Certificate No.：S0130511030001AcknowledgementWeicheng(Sean)Wang,Ph.D.Equity Strategist,V.P.：（8621）2025 7809Please refer to Information Disclosure section,Equity Strategy,Contents,、Insider Trading in China:Lack of Evidence.1、Insider Trading in China:Preliminary Evidences.2,A.More Frequent Selling than Buying.2,B.Management More Actively at“Buy”?!.3,C.Buy at Trough,Sell at Peak.4,D.More Frequent Trading in SME and ChiNext Market.5,、Pre-trade：Is there any pattern？.6,A.Insiders are Contrarian.6,B.Valuation:Buy“Cheap”,Sell“Expensive”.8,C.Fundamental:Sell Those Grow Slower.10,、Post-trade:Informative Indeed!.11,A.Asymmetric Signal:An Overall Conclusion.11,B.Watch Out When Management Buy.13,、Conclusion.14,A.Pre-trade.14,B.Post-trade.14,Figures List.15Tables List.15,Please refer to Information Disclosure section,2005-01,2005-05,2005-09,2006-01,2006-05,2006-09,2007-01,2007-05,2007-09,2008-01,2008-05,2008-09,2009-01,2009-05,2009-09,2010-01,2010-05,2010-09,2011-01,2011-05,2011-09,2012-01,2005-01,2006-05,2006-09,2007-01,2007-05,2007-09,2008-01,2008-05,2008-09,2009-01,2009-05,2009-09,2011-01,2011-05,2011-09,2012-01,2005-05,2005-09,2006-01,2010-01,2010-05,2010-09,90%,80%,50%,45%,1,Equity Strategy、Insider Trading in China:Lack of Evidence“Insiders”refers to the shareholders of a company or the management that have access tothe first-hand business information.After the equity division reform in 2005,more insiders startto trade in the secondary market which leads to the increasing influence of insiders relative toother investors,institutional or individual.,Figure 1:Increasing Proportion of Free Float Cap.the Proportion 0f Free Float Market Capitalizationthe Proportion of Free Float Capital Stock70%60%50%40%30%20%10%Source：iFinD,China Galaxy Securities,Figure 2:Changing Proportion of Mutual Fund Net AssetsNet Assets of the Fund/Total Market Capitalization of A SharesNet Assets of the Fund/Free Float Market Capitalization of A Shares40%35%30%25%20%15%10%5%0%Source：iFinD,China Galaxy Securities,As insider trading becomes increasingly important in the market,more investors start topay attention to the signal inherent in their trades.The basic categories of insider trading in thecapital market include:plain buy and sell,Repo,SEO etc.Among them,the buy or sell decisionof insiders receives most attention of outside investors because such decisions are believed to bebased on insiders valuation of real value of stocks.Just as Individual Investor says,“insiders know their business better than any Wall Streetanalyst.They know when to launch a new product,when the inventory is overloaded,when theprofit margin starts to expand and when the cost will rise”.Overseas financial research has alsofound that insiders are better able to understand the various aspects of the company and theirtrade in the secondary market is often informative.Compared with outside investors,insiders know more details and accurate businessinformation,thus they know more about the companys future development.Hence the tradesbased on such information should be informative and may be regarded as valuable signal.Manyinvestment professionals take this conclusion for granted.However,is insider trading reallyinformative in Chinese market?By now there is no rigorous research in this area.We attempt tofill this blank in this research.Please refer to Information Disclosure section,200501,200504,200507,200510,200601,200604,200607,200610,200701,200704,200707,200710,200801,200804,200807,200810,200901,200904,200907,200910,201001,201004,201007,201010,201101,201104,201107,201110,201201,200501,200504,200507,200510,200601,200604,200607,200610,200701,200704,200707,200710,200801,200804,200807,200810,200901,200904,200907,200910,201001,201004,201007,201010,201101,201104,201107,201110,201201,50,300,250,2,Equity Strategy、Insider Trading in China:Preliminary EvidencesBefore verifying the value of insider transaction for outside investors,we first look at thehistorical data since the year of 2005 for preliminary evidences.A.More Frequent Selling than BuyingAccording to the data,there were five big waves of insider buying and selling respectivelyduring our sample period.The period of“big buy”include 05.8-06.12、08.8-09.1、09.9、10.5 and 11.5-12.1 while the following periods record“big sell”:07.1-08.3、09.3-09.12、10.8-11.1、11.3-11.7 and 11.11.Since January 2005,the monthly average trade amount is0.763 billion RMB(buy)and 4.852 billion RMB(sell)while in the big waves of insider trading,this number increases to 1.477 billion RMB(buy)and 8.851 billion RMB(sell)respectively.Looking at either entire sample period or big waves,we find“buy”is far less frequent than“sell”.The frequency of“sell”events is similarly higher than that of“buy”.Figure 3:Amount of Insider Trading,the Total Volume of Buys(100M),the Total Volume of Sales(100M),3010-10-30-50-70-90-110-130-150Source：iFinD,China Galaxy SecuritiesFigure 4:Frequency of Insider Tradingthe Total Number of Buys Announcementthe Total Number of Sales Announcement200150100500Please refer to Information Disclosure section,All,1,3,Equity StrategySource：iFinD,China Galaxy SecuritiesB.Management More Actively at“Buy”?!We exclude the transactions of Central Huijin and other financial institutions.Instead,ourinsider trading sample mainly consists of the trades initiated by other large shareholders andmanagement.Thus we have 8750 observations.We summarize the frequency and tradingamount of“buy”and“sell”and report following pattern:（1）Company management are more active at buying than selling(which is a little bitsurprising)；（2）Large shareholders(excluding financial institutions)are more active at selling thanbuying；（3）Insider buying is less frequent in SME and ChiNext market relative to main board.Table 1：Sample Percentages of Insider Buy versus Sell both in terms of Frequency and Amount1Insider Category,Large Shareholder,Management,Buy Freq.Sell Freq.Buy Amount,18626888649.55,1080（58%）6291（91%）635.2,782（42%）597（9%）14.35,Overall(100 Million）,Sell Amount,3334.59,3216.6,117.99,(100 Million),Buy Freq.Sell Freq.,15014737,924（62%）4552（96%）,577（38%）392（4%）,Main Board,Buy Amount,622.05,615.05,7.0,(100 Million）,Sell Amount,2765.91,2750.17,15.74,(100 Million),Buy Freq.Sell Freq.Buy Amount,361215127.5,156（43%）1739（81%）20.15,205（57%）412（19%）7.35,SME and ChiNext(100 Million）,Sell Amount,568.68,466.43,102.25,(100 Million)Source：iFinD,China Galaxy SecuritiesWe exclude the transactions of Central Huijin and other financial institutions.Please refer to Information Disclosure section,200501,200505,200509,200601,200605,200609,200701,200705,200709,200801,200805,200809,200901,200905,200909,201001,201005,201009,201101,201105,201109,201201,4,Equity Strategy,Figure 5:Percentages of Insider Buy in Various Markets,Figure 6:Percentages of Insider Sell in Various Market,100%90%,Large shareholders,Management,100%90%,8.67%,Large shareholders Management8.28%,19.15%,80%70%60%,42.00%,38.44%,56.79%,80%70%60%,50%40%30%20%,58.00%,61.56%,43.21%,50%40%30%20%,91.33%,96.09%,80.85%,10%0%,10%0%,Overall,Main Board,Non Main Board,Overall,Main Board,Non Main Board,Source：iFinD,China Galaxy Securities,Source：iFinD,China Galaxy Securities,In the Main Board,many insiders are State-owned shareholders,who are oftenpolitical-oriented.Their trades may not be as informative as other insiders.For this reason,wewill implement analysis for main board and non-main board(including SME and ChiNext)separately.C.Buy at Trough,Sell at PeakInitial evidence shows that five big buy waves(05.8-06.12、08.8-09.1、09.9、10.5and 05.8-06.12)all happened at the historical or local trough of the market.In particular,thebig buy wave during 05.8-06.12 corresponds to the historical trough when ShanghaiComposite recorded 998.The latest big buy during 11.5-12.1 is also consistent with abovefinding.In contrast,five big waves of sell(07.1-08.3、09.3-09.12、10.8-11.1、11.3-11.7and 11.11)all correspond to the peaks of the market,where 07.1-08.3 period happened atthe historical peak of A-share market.It seems insider trading overall is indeed informative inChinese market.Figure 7:Insider Buy versus Shanghai Composite,50403020100,the total volume of Buys(100M,left)The Shanghai Composite Index,7000600050004000300020001000,Please refer to Information Disclosure section,200501,200506,200511,200609,200702,200707,200712,200805,200810,200903,200908,201001,201006,201104,200511,200511,200604,200609,200702,200707,200712,200805,200810,200903,200908,201001,201006,201011,201104,201109,201202,200501,200506,200501,200506,200604,200609,200702,200707,200712,200805,200903,200908,201001,201006,201011,201104,201109,201109,200604,201011,201202,200810,5,Equity StrategySource：iFinD,China Galaxy SecuritiesFigure 8:Insider Sell versus Shanghai Composite,250200150100500,the total volume of Sales(100 M,left)The Shanghai Composite Index,7000600050004000300020001000,Source：iFinD,China Galaxy SecuritiesD.More Frequent Trading in SME and ChiNext MarketThe percentages of insider trades happened in SME and ChiNext keep rising these days.This pattern is especially strong with regard to“Sell”.In January 2012,insider buys in SMEand ChiNext market represent 66%of entire sample while the proportion of sell announcementsis as high as 78%.Overall,the Main Board is still the main trade market because of its huge size,but the insider trading in SME and ChiNext is becoming more active.,Figure 9:Buy Announcements%in Various Markets100%90%80%70%60%50%40%30%20%10%0%,Figure 10:Sell Announcements%in Various Market100%90%80%70%60%50%40%30%20%10%0%,Main Board,SMEB,ChiNext,Main Board,SMEB,ChiNext,Source：iFinD,China Galaxy SecuritiesPlease refer to Information Disclosure section,Source：iFinD,China Galaxy Securities,4,6,Equity Strategy、Pre-trade：Is there any pattern？In this part,we will focus on stock price,valuation level and business fundamental duringthe pre-trade period in order to explore any potential patterns that may be helpful for identifyingpossible trades.A.Insiders are ContrarianOverseas researches show that insiders are contrarian investors.Is this also true in Chinesemarket?We use Event Study methodology with Chinese data to test above hypothesis.Specifically,we calculate the raw return for the horizons of one week to one year before tradingannouncements.We also do the same calculation for large shareholder and management tradingseparately.1、What Happened Before Insiders Buy?One week before the announcement,we observe positive price reaction when either largeshareholders or management announce to buy.However,when we look at longer pre-tradehorizons such as 3 months,6 months and 12 months,we start to observe significant negativereturn for portfolios involving insider buying.Given that insiders always actually buy before public announcement,it is easy tounderstand the temporary positive return for short window before announcement.For largeshareholders,their buys usually involve larger number of stocks,which may take longer toexecute such trading order and hence explain why the return for one month before buyannouncement is still positive.When we compare such pre-buy price pattern in main board versus that in SME andChiNext market,we find much more significant pattern in the latter.Figure 11:Price Pattern before Buy:Overall,20,ALL,Large shareholders,Management,Prior 1 Week,Prior 1 Month,Prior 3 Months Prior 6 Months,Prior 1 Year,-2-4-6-8-10Source：iFinD,China Galaxy SecuritiesPlease refer to Information Disclosure section,5,5,-5,-5,7,Equity Strategy,Figure 12:Price Pattern before Buy:Main Board,Figure 13:Price Pattern before Buy:SME+ChiNext,All,Large shareholders,Management,All,Large shareholders,Management,0,0,Prior 1 Week,Prior 1 Month Prior 3 Months Prior 6 Months,Prior 1 Year,Prior 1 Week,Prior 1 Month Prior 3 Months Prior 6 Months,Prior 1 Year,-10-15-20-25-30-35Source：iFinD,China Galaxy Securities,-10-15-20-25-30-35Source：iFinD,China Galaxy Securities,2、What Happened Before Insiders Sell?Before insiders sell their stocks,the corresponding stocks had usually accumulatedsignificant positive return.For the portfolio consisting of large shareholders sell,we find thatsuch portfolio had increased approximately 60%in price for the window of 12 months pre-trade.When we look at the portfolio consisting of management sell,such pre-trade pattern is weakerbut we still find a return of positive 26.64%and 25.62%for the 12-months and 6-monthswindows before sell.Figure 14:Price Pattern before Sell:Overall,60,All,Large shareholders,Management,50403020100,Prior 1 Week,Prior 1 Month Prior 3 Months Prior 6 Months,Prior 1 Year,Source：iFinD,China Galaxy SecuritiesWhen we split the entire sample into two sub-groups according to whether or not theinvolved transactions happened in the main board,we observe two quite different patterns.Specifically,we notice much weaker positive return for the pre-sell period in non-main board.How do we explain such difference?Please refer to Information Disclosure section,8,Equity StrategyOverseas researches show that insider sell may be motivated by multiple incentives inwhich“reap the profit”,of course,is the most logical incentive.But further research show thatthe liquidity needs of insiders may also lead to the decision of sell.This finding will helpexplain above finding.It is more likely that the insiders of non-main board stocks are private institutions orindividuals who may have more needs for liquidity,which may explain a smaller positive returnbefore sell in non-main board.In comparison,main board stocks have,for a higher likelihood,state-owned institutions as their shareholders who may have lower liquidity needs.Therefore,when they decide to sell,a significant positive return has to be there as pre-condit