When investing, your capital is at risk and you may get back less than invested. Past performance doesn’t guarantee future results.
Smart Money. What is a smart money? Definition, examples, types, how it works
Feeling lost in the maze of smart money movements when investing? Experience the confusion turning to clarity as you explore the insights and solutions in this comprehensive guide to following the ‘Smart Money’.
Smart money, in essence, is the people ‘in the know’. Their investment actions are (in theory) more informed and worth tracking by individual investors - but their tracks can be hidden - this guide is how to uncover them!
Smart money, in essence, is the people ‘in the know’. Their investment actions are (in theory) more informed and worth tracking by individual investors - but their tracks can be hidden - this guide is how to uncover them!
QUOTE
"The biggest mistake investors make is to believe that what happened in the recent past is likely to persist. They assume that something that was a good investment in the recent past is still a good investment."
Big ideas
- Insider buying reveals potential future market trends by reflecting the confidence and expectations of company executives and insiders.
- The Commitments of Traders (COT) Report is a legal reporting requirement for large investors, such as institutional traders, to show how they are positioned in various markets.
- The Smart Money Index hones in on end-of-day trading activities since many believe this better represents the strategic moves of the more experienced and informed investors.
Who is the smart money?
Definition
Smart money refers to investors who have a thorough understanding of the markets, often with access to comprehensive data, advanced analytical tools, and a wealth of experience.
These investors are usually institutional professionals from hedge funds, pension funds, or investment banks. Their decisions stem from extensive research, long-term strategies, and an in-depth understanding of market dynamics. The actions of smart money are often viewed as a precursor to market trends, making their movements a point of keen interest for other investors.
Ever noticed how big investors often lead the way in the market? Watching what they do can really help you figure out your investment strategies
Ever noticed how big investors often lead the way in the market? Watching what they do can really help you figure out your investment strategies
Smart money vs dumb money: Understanding the differences
There are two main types of players: the smart money, who are really clued in, and the not-so-smart money, who don’t have the same level of expertise. These labels might sound a bit harsh, but they're just tools to distinguish between the real pros and the average investor.
The important thing here is not to get hung up on the labels themselves because they're there to make sense of different investment approaches and levels of know-how. And remember, you don't have to use these terms if you don’t want to. They're just for understanding the ins and outs of the markets.
The important thing here is not to get hung up on the labels themselves because they're there to make sense of different investment approaches and levels of know-how. And remember, you don't have to use these terms if you don’t want to. They're just for understanding the ins and outs of the markets.
Definition
Dumb money are the newer investors, usually individuals, who aren't as experienced. They tend to make decisions based on emotions or whatever's trending rather than solid research.
These investors often jump into trends late and get spooked easily, pulling out during market dips only to watch the market turn around again.
But let's be clear, the labels 'smart' and 'dumb' aren't always accurate. Retail investors can be pretty savvy, while big institutional investors can make mistakes. It's more about the general approach (as far as mindset and techniques) and what resources they have at hand.
But let's be clear, the labels 'smart' and 'dumb' aren't always accurate. Retail investors can be pretty savvy, while big institutional investors can make mistakes. It's more about the general approach (as far as mindset and techniques) and what resources they have at hand.
Smart money concepts
The scope of this article is all about long-term investing, but it's worth quickly addressing how the term "smart money concepts" is understood by day traders.
The concept of Smart Money Concepts (SMC) in trading can be traced back to Michael J. Huddleston, who developed a program called The Inner Circle Trader (ICT). Huddleston gets the credit for creating the SMC Forex trading approach, which has since boomed in popularity across various Forex forums. Short-term smart money strategies target short-term price fluctuations and require super high levels of engagement with markets (lots of screen time) as well as quick decision-making.
If you have a long-term investment horizon, tracking smart money is less about the next price move and more about understanding the underlying strategies and sentiment that drive institutional investments. This includes recognising patterns in asset allocation and being aware of any big shift in investment strategies among the so-called big players.
The concept of Smart Money Concepts (SMC) in trading can be traced back to Michael J. Huddleston, who developed a program called The Inner Circle Trader (ICT). Huddleston gets the credit for creating the SMC Forex trading approach, which has since boomed in popularity across various Forex forums. Short-term smart money strategies target short-term price fluctuations and require super high levels of engagement with markets (lots of screen time) as well as quick decision-making.
If you have a long-term investment horizon, tracking smart money is less about the next price move and more about understanding the underlying strategies and sentiment that drive institutional investments. This includes recognising patterns in asset allocation and being aware of any big shift in investment strategies among the so-called big players.
Tracking smart money: Methods, tools, and techniques
In the following sections, we will address 5 ways to track smart money
1. Interpreting Insider trading data
2. Utilising Financial reports and filings
3. Following the Commitments of Traders (COT) Report
4. Understanding the Smart Money Index
5. Paying attention to institutional fund managers
1. Interpreting Insider trading data
2. Utilising Financial reports and filings
3. Following the Commitments of Traders (COT) Report
4. Understanding the Smart Money Index
5. Paying attention to institutional fund managers
Insider buying: A window into smart money
Definition
Insider buying is when management, directors, or other people known as ‘significant persons’ that have some inside knowledge of what’s going on buy shares in the company.
Some investors monitor these transactions as an extra bit of data to ascertain the possible future performance of the company.
Some investors monitor these transactions as an extra bit of data to ascertain the possible future performance of the company.
In a nutshell, when insiders invest in their own companies, it is seen as a vote of confidence in the company's future. Would they buy shares if they think the company is going down the tubes? Maybe, but probably not.
Insiders have access to information about their company's operations, financial status, and future plans that outsiders could not know. A decision by an insider to invest their own hard-earned personal capital can be an important signal to outside investors about the health and potential of the company.
But it's crucial to approach insider buying with a pinch of salt. Not all insider buying is equal, and it should be considered in the context of the company's overall financial picture.
Here are three handy tips for insider buying:
Insiders have access to information about their company's operations, financial status, and future plans that outsiders could not know. A decision by an insider to invest their own hard-earned personal capital can be an important signal to outside investors about the health and potential of the company.
But it's crucial to approach insider buying with a pinch of salt. Not all insider buying is equal, and it should be considered in the context of the company's overall financial picture.
Here are three handy tips for insider buying:
- A series of purchases by multiple insiders over time is often more meaningful, showing broader positive sentiment than a single transaction.
- The size of the purchase in comparison to the insider's salary and existing holdings provides additional context to the significance of the buying activity.
- If insiders buy shares after a significant drop in the stock price it shows they probably think it’s undervalued. That’s a different idea to consistent buying, even when the stock is performing well that is more a sign of overall confidence in the company’s performance.
Naturally, the ‘smart money’ doesn’t go shouting off the rooftops about what they are really doing. Fortunately, in the UK as well as in the USA, insider transactions are monitored by regulatory bodies, and disclosures are required by law, making this information accessible to investors.
These transactions can be found under filings on official regulator websites, but often, the easiest way to keep track of insider activity is by third-party sites tracking and collating this data for you.
One such example that gives you free insider trading activity is Market Beat:
These transactions can be found under filings on official regulator websites, but often, the easiest way to keep track of insider activity is by third-party sites tracking and collating this data for you.
One such example that gives you free insider trading activity is Market Beat:
Source: Market BeatFor long-term investors, often, it's not about making quick decisions based on a single insider transaction but about understanding the broader narrative that insider buying can tell about a company's future.
Understanding 13F filings in smart money analysis
Definition
13F filings, required by the Securities and Exchange Commission (SEC) from institutional investment managers with over $100 million in managed assets, provide a quarterly snapshot of their equity holdings.
For long-term investors, they can offer valuable insights into the strategies of some of the most influential players in the market.
What do 13F filings reveal?
13F filings list all the equity positions, including stocks, ETFs, and other securities, held by institutional investors at the end of each quarter. By analysing these filings, investors can see which stocks are being bought, held, or sold by large investment managers. This information can be particularly telling when there's a consensus among several big investors on certain stocks or sectors.
Several websites offer access to 13F filings for free, allowing investors to view the quarterly holdings reports filed by institutional investment managers, these include:
Several websites offer access to 13F filings for free, allowing investors to view the quarterly holdings reports filed by institutional investment managers, these include:
1. EDGAR Database of the Securities and Exchange Commission (SEC)
The SEC's EDGAR (Electronic Data Gathering, Analysis, and Retrieval) system is the primary source for 13F filings. Investors can search for and access these filings directly from the SEC's website.
WhaleWisdom
This website provides detailed information on 13F filings, allowing users to track the holdings and portfolio changes of institutional investors and hedge funds.
HoldingsChannel
This site allows users to search 13F filings and view the stock holdings of many institutional investors and hedge funds.
Dataroma
A user-friendly website that tracks the stock picks and portfolio compositions of a select group of super-investors, which is often derived from 13F filings.
GuruFocus
This website has access to 13F filings along with tools to analyse the data. It covers a range of investment managers and their portfolio allocations.
A cautionary word about sing 13F filings in investment strategies
Keep in mind that these filings are backwards-looking and come with a 45-day lag after the quarter's end. 45 days can be a long time in markets! The delay in filing means the information might not be an accurate reflection of the current holdings and prices may have already significantly changed since the transaction was first made, meaning any move to copy it would be too late.
13F filings only provide a partial picture of an institutional investor's portfolio, omitting non-equity assets, and do not reveal the reasons behind the buying or selling decisions.
13F filings only provide a partial picture of an institutional investor's portfolio, omitting non-equity assets, and do not reveal the reasons behind the buying or selling decisions.
Significant reports in smart money analysis: COT report
For long-term investors, certain reports and data sources serve as vital tools for tracking smart money. Among these, the Commitments of Traders (COT) report and similar publications play a crucial role in revealing the investment patterns of large and influential market players.
DEFINITION
The Commitments of Traders (COT) report is issued on a weekly basis by the Commodity Futures Trading Commission (CFTC). It provides a breakdown of the trading positions among different market participants in the futures and options markets.
This report categorises traders into three main groups:
1. Commercial traders (hedging commercial orders)
2. Non-commercial traders (the large speculators)
3. Non-reportable traders (the small speculators)
This report categorises traders into three main groups:
1. Commercial traders (hedging commercial orders)
2. Non-commercial traders (the large speculators)
3. Non-reportable traders (the small speculators)
By analysing the positions and changes in these categories, investors can gain insights into what the more influential players, often considered as smart money, are doing.
Although primarily used in futures trading, the COT report's data can also provide valuable insights for long-term investors in other markets. For instance, significant shifts in the positions of commercial traders can indicate broader trends or sentiment in related equity or commodity markets. This information can help investors understand the macroeconomic factors influencing market movements.
Although primarily used in futures trading, the COT report's data can also provide valuable insights for long-term investors in other markets. For instance, significant shifts in the positions of commercial traders can indicate broader trends or sentiment in related equity or commodity markets. This information can help investors understand the macroeconomic factors influencing market movements.
The Smart Money Index: Decoding market signals
The Smart Money Index (SMI) is a unique financial tool that offers a different perspective for those keen on tracking smart money. This index is based on the principle that the trading behaviour of experienced investors, often considered as 'smart money', tends to differ from that of less experienced retail investors.
A quick lesson on how the Smart Money Index works
DEFINITION
The Smart Money Index operates by tracking the stock market's performance at the opening and closing of each trading day.
The underlying assumption is that retail investors, influenced by overnight news and emotion, are more active at the market opening. In contrast, more informed and strategic investors, the smart money, tend to make their moves towards the market close.
By comparing the opening and closing prices, the SMI aims to capture the sentiment of experienced investors.
The underlying assumption is that retail investors, influenced by overnight news and emotion, are more active at the market opening. In contrast, more informed and strategic investors, the smart money, tend to make their moves towards the market close.
By comparing the opening and closing prices, the SMI aims to capture the sentiment of experienced investors.
FTSE 100 with Smart Money Index indicator (Dec 2023)
Source: TradingView. Past performance doesn’t guarantee future results.Interpreting the SMI
A rising SMI, where the market closes higher than it opens, is often interpreted as smart money buying into the market. Conversely, a falling SMI can indicate smart money selling off. This divergence from the general market trend can provide insights into the underlying strength or weakness of the market beyond what is evident from surface-level price movements.
For long-term investors, the Smart Money Index can serve as a check against herd mentality or market overreactions. An investor might use the SMI to gauge whether a market rally is supported by smart money or merely driven by speculative trading.
For long-term investors, the Smart Money Index can serve as a check against herd mentality or market overreactions. An investor might use the SMI to gauge whether a market rally is supported by smart money or merely driven by speculative trading.
Limitations and considerations
Don’t use the SMI in isolation but rather as part of a broader set of analytical tools that include fundamental analysis that will help confirm or deny what the SMI implies about what the smart money is up to.
Analysing institutional investment trends
It makes intuitive sense that the more money you are investing, the bigger the influence you’ll have on the markets. It’s hard for individual investors to change the underlying dynamics of what a stock is doing because their investment is comparatively small compared to the total float of the stock.
Institutional investors, such as pension funds, mutual funds, and insurance companies, manage substantial assets, and their investment decisions can make a big splash. Firstly, they’ll cause some change in the immediate price momentum but this effect can be compounded by other investors following in their footsteps, perhaps prolonging or reversing the current price trend.
Institutional investors, such as pension funds, mutual funds, and insurance companies, manage substantial assets, and their investment decisions can make a big splash. Firstly, they’ll cause some change in the immediate price momentum but this effect can be compounded by other investors following in their footsteps, perhaps prolonging or reversing the current price trend.
1. Examining equity holdings of institutions
This involves looking at the regulatory filings we have already mentioned, such as the aforementioned 13F filings in the US. The UK has similar disclosure requirements enabling investors to view the portfolios of large institutions.
Analysing these holdings is a way to see which areas are drawing institutional interest, potentially signalling confidence or the finding of undervalued assets.
Analysing these holdings is a way to see which areas are drawing institutional interest, potentially signalling confidence or the finding of undervalued assets.
2. Monitoring public statements of fund managers
What well-known fund managers say in public can give some context to what has been reported in official filings. A good speech or TV interview can reveal the fund managers’ perspectives on market conditions, whether they favour any particular stocks and also their general investment philosophy that helped bring about their success.
3. Alternative methods and tools got tracking institutional investors
It’s easy to suffer from analysis paralysis and it helps save time by using specialised financial news services, investment research newsletters and analytics platforms. These services can do things like track and interpret large-scale transactions and give regular updates on the shifts in institutional strategies.
Other technological tools and software are available that can aggregate and analyse large datasets of institutional investment information. So instead of doing it yourself, maybe using MS Excel, these tools can highlight what could be notable shifts in market behaviour, leaving it for you to act upon the information if you think it’s relevant.
Other technological tools and software are available that can aggregate and analyse large datasets of institutional investment information. So instead of doing it yourself, maybe using MS Excel, these tools can highlight what could be notable shifts in market behaviour, leaving it for you to act upon the information if you think it’s relevant.
Recap
Insider buying is probably the single clearest indicator of how smart money moves through financial markets and can be used as a signal for confidence in the future growth of an asset. Likewise, 13F filings are a way to see how fund managers are adjusting their portfolios. As an index for tracking institutional investors, the Smart Money Index is another way to judge the overall mood among professionals.
By putting some or all of these indicators to use, you stand a better chance of aligning your investment strategy with the big players. There is no guarantee that the information provided in these concepts and strategies is accurate, timely, or complete.
By putting some or all of these indicators to use, you stand a better chance of aligning your investment strategy with the big players. There is no guarantee that the information provided in these concepts and strategies is accurate, timely, or complete.
FAQ
Q: What does smart investment mean?
It refers to an investment decision that is well-informed and carefully considered as opposed to one that is ill-informed and based on rushed decision-making. The ultimate measure of a smart investment is that it aligns with your financial goals and risk tolerance.
Q: How does smart money work?
It’s about making strategic investments based on plenty of experience, in-depth market analysis and access to reliable information. The ‘smart’ investors often lead market trends because they get in early, influencing the flow of capital in the financial markets.
Q: What is the smart money concept?
The SMC idea can be traced back to Michael J. Huddleston, who developed a program called The Inner Circle Trader (ICT). He is credited with starting and first publishing about the SMC Forex trading approach, which has gained a tonne of popularity across various Forex forums.
Q: What is smart money in trading?
It’s about using price action patterns to see how the smart money is likely moving, with the aim of aligning your trading strategy to match these movements. Essentially, it's about understanding and following the footsteps of these major players in the Forex market.
Q: Is smart money buying or selling?
Shares can be bought or sold by smart money, depending on how they view market conditions and what could happen next to the price of the asset. The term 'smart money' simply refers to any decision, be it buy or sell, of experienced, well-capitalised investors.
Q: What is the smart money effect?
This effect refers to the influence that the investment decisions of experienced and knowledgeable investors (smart money) have on market trends and asset prices. Their actions are often considered a leading indicator of market movements, influencing other investors' decisions.
Q: Is the smart money concept profitable?
While SMC aims to leverage the influence of the major market players, its success hinges on correct analysis, timing, and execution of trades. Like any trading strategy, it carries inherent risks and requires a coherent strategy to manage that risk.
