Corporate Insider Trading and Social Networks

We explore whether corporate insiders in different locations in a network of directorship earn different abnormal stock returns on their reported insider transactions. We measure insiders’ connectedness to other insiders by their centrality in the network. Although previous literature shows that insiders’ personal attributes explain a large part of variation in abnormal insider profits, an association between insiders’ trading behavior and their social networks has received little attention. Our results imply that well-networked insiders earn higher abnormal returns after stock purchases, suggesting that insiders use their connectedness and resulting informational advantage over other investors to extract economic rents via insider trading. We also find that the level of connectedness is also associated with reputational costs of misusing insider information, limiting well-networked insiders’ willingness to engage in aggressive selling before stock price declines. These results remain after controlling for various firm- and insider-level characteristics, including executive hierarchy.