The single greatest myth ever perpetuated about insider sales is that insider sales don’t necessarily mean anything.
In fact, insider sales mean everything. That’s especially true when it comes to Netflix, Inc. (NFLX) stock. I’m going look at a few facts involving insider ownership of Netflix stock, and then I’ll walk us through the “logic” of insider transactions.
If you’re a long, you should be frightened.
The Story of Netflix Stock: Sell, Sell, Sell!
According to SEC Form 4 filings, Netflix CEO Reed Hastings has never made an insider open-market stock purchase. On June 30, 2003, Hastings owned 2,382,760 shares of Netflix stock directly. After he sold some shares off, NFLX stock split 2-for-1 in February 2004, giving him 4,357,280 shares. At the end of 2005, he moved most of the shares into a trust. Shares that he receives via stock options are immediately sold.
Since then, he has sold Netflix stock on a regular basis, whittling ownership down to about 930,000 shares. NFLX stock has split 7-for-1, giving him about 6.3 million shares in his trust (the information from SEC Form 4 is delayed by six months, hence the calculation). That sounds like a lot, except when you consider that this represents 1.5% of Netflix.
It gets worse. All the insiders at Netflix have been selling for years and years. The only purchases of NFLX are stock options, which are then immediately sold. Nobody appears to be buying and holding.
The insider roster shows that most of the insiders, as a group, barely own any of the company.
Why NFLX Longs Should Have Pause
Insider purchases are a good sign, for why would management purchase shares of their own company unless they believed the investment would be likely to appreciate significantly over time? It shows confidence that individual members of management likely believe the stock is undervalued.
Insider selling is no different, although the market wants us to believe it is.
The prevailing wisdom is that insiders selling stock is not necessarily indicative of management’s lack of confidence in the company or stock. The sales may just be to “diversify personal holdings.” That’s a false narrative.
There is no better investment than in a company you are directing, whether it be as CEO, CFO or as a member of the board of directors. You have private information. You have all the information. You have influence over the direction of the company. You have the best macro and micro perspective of anyone in the market regarding the company and its position in the sector and the economy.
If you own shares, why would you diversify? No other investment would provide the same advantages.
Sure, there are cases in which modest amounts of stock could be sold to purchase a mansion or yacht or four years of college. Yet once those sales net a few million bucks, there’s only one reason to sell, and that’s if the seller has lost confidence in the company’s future and believes better returns can be found elsewhere.
You could argue that buying shares when the stock is rising significantly may not make sense. Yet how about when it is lower, or falling? All stocks go up and down, so buying during downturns would make sense, especially for momentum stocks.
It happens with other companies. In the past six months …
- Twitter (TWTR): 7 buys, 33 sales
- Exxon Mobil (XOM): 1 buy, 3 sales
- Chevron (CVX): 4 buys, no sales
- ConocoPhillips (COP): 2 buys, no sales
And Netflix? Well, let’s take a look at its precipitous fall from July 15, 2011, to Nov. 25 of the same year. In that stretch, NFLX shares lost more than three-quarters of their value, yet during that same time period, Netflix stock saw 20 insider sales and no buys.
In fact, from July 15, 2011, through Netflix’s ultimate bottom on Sept. 25, 2012 (which saw shares close at $7.69), only two insiders bought into NFLX. Director Jay Hoag — currently the second-largest insider holder of NFLX stock — made a pair of purchases totaling a significant 343,400 shares, Director Richard Barton bought 6,000 shares.
How Much Do the Insiders Really Care?
Even if you dispute this theory, you can’t deny that the more shares insiders hold, the more aligned their interests are with shareholders. What’s valuable about this perspective is that it doesn’t require any suppositions regarding management beliefs. It’s an objective fact.
All this should raise a big question that few people seem to be asking, particularly about Netflix stock.
If insiders are selling shares in a stock that you own, why would you want to stay long, especially if their total company ownership is not significant?
This brings us to Netflix stock.
The behavior of insiders should alarm you because they fit all of these criteria, and they own but a tiny bit of the company.
Let’s say I’m wrong. Suppose there is nothing unusual about this behavior. Then why would an investor stay long on NFLX now when, as the market has bid up the stock to an unsupportable valuation, the CEO and all other insiders have been selling? What about this gives longs any confidence, especially when taken in context with all the other things that are going wrong at Netflix that nobody wants to address?
That alone is a good reason to sell Netflix stock now.
Lawrence Meyers is the CEO of PDL Capital, a specialty lender focusing on consumer finance. As of this writing, he did not hold a position in any of the aforementioned securities. He has 20 years’ experience in the stock market, and has written more than 1,200 articles on investing. He also is the Manager of the forthcoming Liberty Portfolio. Lawrence Meyers can be reached at TheLibertyPortfolio@gmail.com.
