SIMON BROWN: Directors’ dealings — what you should know

Directors’ dealings are a hot topic. If they’re selling, everybody panics and shouts insider trading, and if they’re buying everybody gets excited. But for listed companies the whole process is a lot more nuanced and I want to dig into some of the details this week. 

As per the JSE listing rules (paragraphs 3.63 to 3.74 of the Listings Requirements) any director (or related party such as spouse, minor or a company or trust controlled by the director) has to notify the market whenever they buy or sell shares in the company within three days.

They also need permission from the company secretary in order to trade. This is to ensure no insider information is traded upon. Lastly, directors will have closed periods around results time during which they cannot trade in the company shares as, through the process of putting together the results they will be privy to insider information that the general market isn’t, until the results are released. 

Now let’s get into the part investors love: directors buying. This is where a company director goes onto the open market with their own hard-earned cash and buys shares in their own company. This is generally considered bullish, which is a fair response. But let’s also accept that directors are experts in their business, not the broader market and its gyrations. 

The real uproar happens when a director sells. Often this is considered an indication that a stock is expensive (but remember, they’re not investment experts), or that there is trouble afoot.  

Yet, ultimately, directors are net sellers in company stock as they receive stock as bonuses and even at times for base pay. In other words, they have a lot of stock and will usually be very overweight their own shares, so it really is prudent for them to lighten their holding for simple diversification purposes. 

Still, at times a director may sell ahead of a share price collapse and then people go wild. Did the director have insider information? Or was it luck? 

Truthfully it could be either but let’s be clear — directors always have more information than the public as they work at the company every day, hence the requirement that the company secretary sign off on any director dealings. 

There is another issue for directors: they hold stock as collateral; a falling share price means they have to sell shares to cover the loan. While using shares as collateral makes sense, it can also get very messy and I don’t like it — especially when these shares are geared with CFDs or futures. 

Naturally, in the case of a post-director sale share collapse, investors may be upset (potentially very upset). The JSE can investigate insider trading and often does, but with very few convictions, nobody trusts the process. 

So if a director has sold ahead of a price collapse it’s up to the investor to decide if they trust management.

Lastly, always check the annual report for details on director holdings and options (as for options, that’s another column all on its own).