Saturday, April 29, 2023

Here's Why You Can't Blindly Trust All Insider 'Whispers'

By Whitney Tilson (View Archive)

Over the past week here at Empire Financial Daily, I've explained how tracking insider buying – or what I call 'whispers' – can lead to massive gains in the market...

To recap, an "insider" refers to a company executive, like a board members or director.

It can also mean any person or entity that beneficially owns more than 10% of a company's "voting shares" – like how Warren Buffett's Berkshire Hathaway (BRK-B) owns roughly 24% of energy company Occidental Petroleum (OXY).

Insiders know more about the company than anyone. They're in a position of oversight... and they're intimately aware of the company's operations and outlook.

Insiders buy shares with their own money for one main reason: they think the stock is going up...

However, it's important to keep in mind that insiders aren't always right...

Their trades don't always pan out... and blindly following any insider activity without doing the proper due diligence can backfire.

In today's essay, I'll walk you through four examples where blindly following insiders could have cost you a fortune...

First up is consider neighborhood social media app Nextdoor (KIND)...

The company went public through a special purpose acquisition company ("SPAC") merger in November 2021. And last year, between June and August, three separate directors collectively bought $11 million of stock.

The problem? Despite having a market cap of around $790 million and sitting on a pile of cash, Nextdoor hasn't convinced Wall Street that it will be profitable any time soon. Revenues fell 10% year over year and net losses grew.

As you can see in the chart below, KIND shares have fallen as much as 40% since the directors bought in...

Next up is flying taxi company Joby Aviation (JOBY)...

Joby went public through a SPAC merger in August 2021 with a $4.4 billion valuation despite generating no revenues.

With the stock getting clobbered in early 2022, the company's founder and CEO and an executive chairman stepped in to buy.

The market wasn't so sure, though...

The company continues to burn through almost $300 million of cash and isn't expected to generate meaningful revenues until 2025.

Meanwhile, Joby's share count continues to rise, and the company issued $69 million worth of stock-based compensation last year... again, on zero revenues.

In the chart below, you can see Joby's continued slide since the insider purchases...

The next insider whiff comes from cryptocurrency exchange Coinbase (COIN)...

Back in 2021, Coinbase looked like a reasonably priced growth stock – trading at 18 times earnings and generating more than $4 billion of free cash flow.

Since then, a "crypto winter" has shaken the crypto market. Bitcoin and ethereum are both down more than 50% from their highs in late 2021.

The company's co-founder made a $27 million bet in May 2022, with COIN shares at $70. Shopify (SHOP) founder and CEO Tobias Lütke, who joined the board of directors in January 2022, bought $738,000 of shares between August and September.

But their purchases were ill-timed...

A few months later, leading crypto exchange FTX declared bankruptcy in November 2022. And last month, crypto bank Silvergate Capital (SI) announced plans to shut down.

Coinbase's revenues are down nearly 60% year over year as trading activity and overall interest in cryptos has waned. To make matters worse, the stock took another hit in March when the U.S. Securities and Exchange Commission ("SEC") threatened to sue Coinbase as it comes under scrutiny over its unregulated staking services.

In this instance, simply following the insiders buying their stock without performing additional fundamental research would have led to big losses...

The final insider dud comes from online used car retailer Carvana (CVNA)...

Carvana's platform helps customers shop for used vehicles online with haggle-free pricing and home delivery.

It benefited big time during the pandemic as people bought cars from the convenience of their living rooms, and at one point the company's market cap exceeded $30 billion. (The fact housebound Americans' wallets had just been stuffed with stimulus checks also boosted the company's top line.)

The problem is, Carvana built its inventory like crazy when used-car prices were historically high. Plus, higher interest rates have weakened demand for car purchases.

Meanwhile, the company spent $7 million on a Super Bowl ad in 2022, went on a reckless hiring spree, and acquired wholesale auction business ADESA for $2.2 billion.

Now, the tides are turning. Carvana is working with creditors to restructure its debt, and the company is on the brink of bankruptcy.

Nine separate insiders haven't given up hope, though – sinking hundreds of millions of dollars into the stock over the past year.

CEO Ernie Garcia III – along with his father and substantial owner, Ernest Garcia II – went in for $421 million when CVNA shares were trading at $57. The general counsel fared slightly better – in for $2 million at an average price of $29 per share.

Seven other insiders – the chief product officer, chief brand officer, four different directors, and a president – got in for $10 million at average cost basis north of $18 per share.

Today, Carvana trades around $7 per share and sports a $1.3 billion market cap. The stock is down 98% from its mid-2021 levels...

These examples all go to show that just because insiders are buying, it doesn't automatically mean that the stock will go higher...

The fact of the matter is, if you want to get the most out of insider "whispers," you need to layer in fundamental analysis... pore through the numbers... and tune into earnings calls.

Sure, you can try to find the best "whisper trades" on your own, spending countless hours leafing through Form 4s. And if that's what you choose, I wish you the best of luck.

But I'd urge you to join me in my new Empire Insider Alert service.

One of the keys to my success has always been my connections to Wall Street's insiders... and my ability to use these connections to follow the "whispers" into incredible investments before anyone else.

With Empire Insider Alert, you can let me use my experience, knowledge, and contacts to get into the very best of these trades... and let me and my team do all the heavy lifting for you.

Learn more about our newest product – and how to get started with a 30-day, cash-back guarantee – right here.

Best regards,

Whitney Tilson
April 29, 2023