The Power Of Inside Information

Your Hidden Investing Edge

Unlock the potential of your own industry knowledge to make better stock market decisions.

Marcus Padley | 18 July 2024 | Education Corner

Bell Financial Group (ASX: BFG - the broker) hit a 52-week high yesterday (2 months ago now). I used to work at Bells, of course, back in 1998. I sat next to Andrew Bell for a few years and learned the retail stockbroking trade. I have been a stockbroker since 1982, but Andrew taught me how to be a retail stockbroker (for 16 years, I had been an institutional stockbroker talking to the fund managers rather than you lot).

Learning the Stockbroking Trade

On the first day, Andrew took me down to Rosati’s at the back of 101 Collins Street, bought me a coffee, and said, “I’m going to teach you how to do stockbroking. You need two things: A stock, and a client. Have you got a client?” I told him about my brother-in-law who had $10,000. He said, “Right, that’s the start. Now I’m going to give you the stock". He told me about Challenger (ASX: CGF) and a change in legislation that would allow annuities to be backed by property instead of just bonds. Challenger was in the box seat to create these annuities, and the banks were more than happy to let them take the business because the margins on their bond-backed annuities were so slim and tied up too much capital relative to their other business streams. I went back to the office and bought my brother-in-law $10,000 worth of Challenger at somewhere around a dollar. It went to $14 eventually. Andrew's prediction came right. "Make one client money, and they tell everybody else". And that’s what happened. I built a client list out of referrals from one client.

Stick to What You Know

The point of the story is that you should stick to what you know. Andrew knew about Challenger. Bells had a stake in Challenger, and the CEO was a great personal friend of the Bell brothers. From 40 years in broking, I know about brokers. Brokers are cyclical businesses. When the market goes up, everyone makes a fortune. When the market goes down, the volumes dry up, prices drop, commissions on lower prices are lower, and brokers go dormant.

Understanding the Cyclical Nature of Broking

Any broker who has lived through a few stock-market cycles will tell you that cyclical businesses have "moments" and are not churning out profits endlessly. So, you have to make as much money as you can whilst the tide is running, because there will be periods when there is no money around. You would be better off playing golf than trying to force gains out of a market that isn’t listening. Take note, all you retirees: Sometimes it's best to just step back. You can't make money all the time. Remain active when the tide is against you, and you will waste a lot of time and maybe money.

Leveraging Industry Knowledge

After 40 years in broking, I understand the cyclical nature of the stockbroking business and should use that knowledge. There are plenty of stocks exposed to the stock market—"Stock market stocks", as I call them. Mostly fund managers, some brokers, but there are others, like ASX, CPU, NWL, HUB, PPS, and many more. Notice that NWL and HUB are on 52-week highs as well. I do wonder if I wouldn’t be a lot richer if I had just traded on my inside (legal) knowledge of the stock market cycle. Maybe I should have just picked this one stock—BFG perhaps, a stock I once knew intimately—and traded that and that alone because I understood it, the drivers, the industry, and its cycle.

The Value of Inside Information

I have written many times about the need to use your own inside information. Not illegal inside information, but your own industry or employment knowledge. You probably don’t know you’ve got it, but any builder can tell you what the property market is doing, whether building activity is on the rise, and which products everyone is using. On the back of that, if they took the time to work it out, there are stock-market implications. The more you know, the lower the risk. And that is the other half of the equation: The more you know, the bigger you go. And that helps. Big bets are possible if your industry knowledge allows it.

The Power of Knowing Before Everyone Else

Making money out of stocks is about knowing things that are not in the price, but will be. Knowing before everyone else. Industry trends are the tide beneath specific stocks. What industry do you work in? Is it booming? What stocks are exposed to that cycle? You may know more than you think. It was obvious back in November that the moment the stock market picked up, all stock market stock revenues had bottomed and would rapidly accelerate. Rather than play “the market” through ETFs or Macquarie (a good proxy for the Australian equity market), I should have just bought BFG instead. Since November, it is up 60.8% from 92c to 148c last night. Easy money for me. Better than the Australian market (+19%) and even the NASDAQ (+47.5%).

Safer Inside Information

If you have (legal) inside information, it is safer. And if it goes wrong, you will see it on the desk before everybody else spots it in the share price. The moral of the story is that you will be more successful with less risk trading one or two specific stocks you know well than you ever will buying a diversified portfolio and listening to Warren Buffett quotes.

Footnote: The Inside Information Trap

By the way, I once got into a lift at Panmure Gordon with a couple of other brokers and a legendary principal trader (a principal trader trades the stock market with the company’s money—got to have balls of steel). He was always in the lift because he was a chain smoker and had to go out the back of the building to smoke. The guys in the lift were talking about some inside information they had and whether they should use it. From the corner of the lift, in a gravelly voice, came the line, “If I had never been told any inside information in my life I would be $1 million better off than I am today". How true. It’s always the way—by the time you hear some inside information, you are the bunny at the end of the line buying the stock of the person who started the story.

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