Director trades, profitability and market efficiency: New evidence

Abstract

We investigate if directors of Australian companies can generate abnormal returns on their reported trades, if these abnormal returns are significant enough to be mimicked by outsiders, and if insider trades have an effect on returns of other investors. We find that insiders take advantage of their private information in stocks of larger corporations, but generally do not in medium and small capitalization firms, indicating that the insiders are attracted to the liquidity and a greater presence of uninformed traders in large stocks. We find that outsiders can make profitable trades net of transaction costs by following insiders’ sale trades in large and medium size firms, otherwise tracking insider trades result in net losses for outsiders. They accumulate on average a net abnormal profit of 4.17 % after a year following insiders sale trades. We propose that market quality can be improved with public access to good quality aggregated data on reported director insider trades.