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Inside Track

Nonpublic Facts Still Help Shape Trading Plans
Wednesday, October 9, 2002
by Tony Cooke


WASHINGTON -- Federally regulated stock trading plans are supposed to assure investor that company insiders aren't trading stock based on nonpublic information, but that doesn't mean that sales under such plans are useless as an indicator of insider sentiment.

In fact, trading plans actually permit executives to use inside information to make one kind of trading decision -- the decision not to sell.

"There are loopholes here you could drive a truck through," said Marc J. Lane, a Northwestern University law professor and financial planner who has written trading plans for executives.

In October 2000, the Securities and Exchange Commission instituted a rule that allows insiders to trade company stock even when they have material nonpublic information - as long as the decision to sell the stock was made in accordance with a defined plan created before the executive got the inside information.

Under these so-called 10b5-1 plans, an executive can make financial plans without having to worry about later coming into possession of information that would prohibit stock sales.

Jonathan Moreland, director of research for Insiderinsights.com, said that executives and investor relations departments tend to portray planned sales as meaningless for investors. Mr. Moreland disagrees. "Investors should use the same rules analyzing the data [on planned sales] that they would with nonplan sales," said Mr. Moreland.

Lon Gerber, director of insider research for Thomson Financial, said that in compiling data, "We consider a sale a sale, whether it's part of a plan or not."

According to Thomson Financial's data and regulatory filings, Red Hat Inc. Chief Operating Officer Timothy Buckley sold 538,000 shares for $3.8 million after instituting a sales plan Dec. 21, 2001. He holds 336,300 shares after his most recent sale of 6,000 shares yesterday, according to an SEC filing.

Sales by Mr. Buckley have been an excellent future indicator, whether or not they were made under a plan, said Mr. Gerber. "Over time, the average six-month return is minus-20%" after Mr. Buckley sells, said Mr. Gerber, giving Mr. Buckley a rating of 96 on Thomson Financial's 1-to-100 insider stock sales rating system.

A Red Hat spokesman said the company, which develops and provides open source software and services, doesn't comment on insider stock transactions.

Northwestern University's Prof. Lane said because SEC-regulated sales plans don't have to be made public and they can be revoked or changed at will, executives can alter plans using inside information.

The rule was designed to keep executives from trading on material, nonpublic information, but it permits an executive to cancel a planned sale if that executive gets material, nonpublic information that makes a sale seem like a bad idea.

"An officer can terminate a plan whenever he wants to, even if he is in possession of material, nonpublic information," said Mr. Lane. "How would we know? An executive did not sell 5,000 shares last month. There's no reporting of a nonsale."



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