Institutional Investors and Insider Trading Profitability

Abstract

This study examines the relationship between institutional ownership and the profitability of insider trading. A priori the relationship is not clear. On the one hand, institutions possess superior information that erodes insider advantages and are also active in monitoring. On the other hand, institutions could treat insider trading as an incentivizing mechanism to induce manager effort, leading to improved aggregate shareholder welfare. The results indicate that, on average, institutional ownership is negatively related to the profitability of insider trading, and this relationship derives from both direct monitoring and trading/pricing. Further analysis indicates that this relationship is concentrated for insider sales. In contrast, the findings reveal a positive relationship between institutions and the profitability of insider purchases, indicating an incentivizing role.