Top insider trades (Tue, Nov 18)

Connor’s Commentary

The internet is broken because of Cloudflare, which is slowing down my workflow quite a bit. There were 169 new insider trades.

• The CEO at TransDigm (TDG) bought $2.62M of the stock. Only their 2nd purchase ever. He had made three sales in a row prior to this purchase.

• A director bought $600k of MSC Industrial Direct (MSM) for the first time since 2017

• The CEO at Progeny (PGNY) bought $1.9M (increased their listed holdings by 13%)

• The CEO at Arbor Realty Trust (ABR), who has a great track record, bought $470k of the stock

• The CFO at Coca-Cola (KO) sold $9.9M of the stock (one of the largest sales at Coca-Cola in a long time)

• A Director at Circle (CRCL) sold 50% of their listed holdings, even with the stock already down 40% in the last month

• The CEO at Acushnet Holdings (GOLF) sold $4.1M (largest sale ever)

• The CEO at Heritage Insurance sold another $100k

• and much more…

I go into more depth on these companies in the CEO Watcher Premium sections.

Commentary

In last Wednesday’s email (link), I talked about how we use insider signals to identify companies that are likely to have good earnings reports. We like to use social media posts (like the LightPath CEO’s LinkedIn posts), insider buying (like CorMedic’s director buying two weeks before earnings), or both (Shift4 exec chairman with both a $16M purchase after last quarter’s earnings dip and then a tweet just a week before this quarter’s earnings).

The strategy worked out fairly well this quarter as all three stocks popped over 10% after releasing solid earnings. Unfortunately, the market has been a mess, so they didn’t go up as much as they likely would have in a better tape, and they all gave back the gains throughout the day. But as long as you sold immediately after the earnings were announced (as you should on earnings plays), you still came out way ahead.

Then, in Thursday’s email (link), I shared with CEO Watcher Premium members another earnings report coming up this week, where insiders appear to be hinting at positive earnings.

I received several questions about how I structure these earnings trades, so I will share my approach here. It’s also basically my approach to any binary event trade. It is not the optimal approach, nor will it work for everyone, but it works for me.

The first thing I do is decide how much I’m willing to risk on the play. This is not how much I will invest, but how much I could lose. For me, this is in the low single digits per trade, typically 1-3%. I find that to be a size I can stomach if a few go against me in a row (and I can easily get enough cash to put on the trade without having to liquidate a bunch of positions).

The next thing is to decide how to structure the trade. I like to keep it simple. If the options aren’t too expensive, I’ll grab calls. Whether options are “too expensive” is entirely dependent on the stock. As a general rule of thumb, small/mid-cap stocks can jump 10%+ on an earnings surprise, while large caps may only move a few percent.

I’ll use that as my benchmark for whether an option is too expensive, but then I also look at previous earnings for the company to see how it moved on beats/misses and peers that have already reported this quarter. If options are already pricing in a move as large/larger than I expect, then they are too expensive.

This also means I am typically buying contracts that are either at-the-money or slightly in-the-money/out-of-the-money. I know super otm options are both exciting and cheap, but it’s a great way to lose all of your money, and there is nothing more annoying than getting an earnings call correct but still losing money because you bought the wrong options.

One other note on options, I tend to find the best risk/reward on options that are expiring the following month v the options that are expiring within days (or a week or two) of earnings.

The final step is to just size the position. Most of these earnings plays are on small/midcap stocks that move ±10-30% on earnings beats/misses. I like to lean conservative and use -30% (in the common) as my expected loss if I am wrong. This also makes the options math very easy because if you are wrong, the options go to 0 (-100%).

So if I want to bet 3% of my portfolio on an earnings play, I would either put 3% of my portfolio into options or put 9% into the common (or some combination of both). Now, these aren’t actually equivalent positions because if the stock only fell 5% (for example), the options would lose much more money than the common. But I’m simplifying for the sake of this example and demonstrating how I prefer to anchor on the maximum risk I am putting on. In reality, the options are riskier, so I would size the options play smaller than the equivalent common stock play.

I try to use options as much as possible on earnings plays because they require less cash, and you can typically assume they will go to 0 if you are wrong, which makes the risk math easy.

However, I will use common stock if the options are too expensive, too illiquid, and/or I am being more conservative. Right now, because the market has been gross and has been selling off most of the companies that have released good earnings, I’ve been using more common stock than normal (I also have more cash sitting around since I’ve sold off a bunch of stuff in the last couple of weeks). Common is also easier to dump in after-hours / pre-market trading, which has been useful this earnings season when the stocks have been popping immediately after earnings and then already starting to fade by the time the market opens.

Which brings me to my last point: sell your position immediately after earnings (especially if you are correct and the stock pops). You are making a bet on earnings. Once earnings have happened, your play is over. Move on. Don’t try to be a hero and eek out a few more percent by continuing to hold. If you want to continue to own the stock after earnings, that is fine, but treat it as a separate investment from your earnings play and size it accordingly.

For CEO Watcher Premium subscribers, I’ll explain how I decided to invest in this week’s earnings play below.

Some final notes:

• I do not put on the mathematically optimal trades for earnings. A sophisticated investor could spend more time optimally structuring each earnings play and make more money. I do what is 1) relatively easy, 2) psychologically optimal, and 3) makes sense in my portfolio structure

• You are guaranteed to lose money on some of these earnings plays. If you put all of your eggs into just one of these plays, you will get crushed. If you want to allocate a small portion of your portfolio to these plays, structure it so that you will be able to make multiple of these plays over multiple quarters.

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🔒 Today’s Top Trades

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🔒 Other Trade Notes

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🔒 Data Dump

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