Insider trading is illegal, and is punishable with a high fine or, in some instances, even prison. However, even if there are serious consequences for insider trading, the perpetrations mostly deem it too lucrative to ignore it. With insider information you encounter a scenario of low risk and a high potential profit – simply because you are aware of some material facts regarding the specific company’s performance or financial outlook way before the wider public gets access to this information. With this information advantage, those insiders can get into the market much earlier than everyone else, and earn a lot of money when the news becomes freely available.
As we all know, when it comes to trading the financial markets, other traders are not our friends. In order to make a profit, someone else has to realise a loss. Almost all other market participants are viewed as our enemy, but the competition is a fair one… everyone has an equal chance of success. With insider traders manipulating the markets, the chances of success are no longer equal. While instances of illegal insider trading is thankfully not a commonplace event, that does not mean that we cannot use insider knowledge to make profits too. This is not to say that anyone should participate in anything illegal, but rather instead, by watching the price, we can get an indication when and where those with some additional knowledge about a particular market are accumulating a position.
We want to take a look on the German stock Adidas. Adidas was moving sideways from October 2015, but at the beginning of February 2016, Adidas hit the low of the sideway trend once again and then started a rally up from €85 to €107… quite a substantial move. On Thursday, the 28th April, news was released that revenue was unexpectedly 17% higher. After that release, Adidas had a huge gap up.
But was this increase in revenue new information to all market participants? One question to ponder, is why did Adidas rise so strongly in the weeks prior to the news being released? This might be an example of the fact that those with first-hand knowledge of the performance were already driving up the price because they knew that Adidas will come out with strong numbers. When any type of news is released in any market, it tends to be already “old” by the time it hits the wires. Those who were already aware of the results, already have a huge floating profit and then begin to sell their positions to all those retail traders who think that the news is brand new, and a huge move will establish. However, the fact is, the move already happened.
In a way this type of trading can help us stay on the right track in the market. By watching the price, we can see when a surge begins and we will jump on board as technical traders because the price is moving. We can earn profits just by watching charts and movements which are established by those in the know, and then follow them through to fruition.