3 David Einhorn Q1 Picks That Insiders Also Love

Tracking both hedge fund and insider trading activity can be an effective way to screen for smart stock picks. But who qualifies as a corporate insider, and why should we pay attention when they make big trades? Top officers, board members, and 5%-plus shareholders are classified as insiders. What sets them apart from regular investors is their access to stock-moving information, which gives them an advantage over other investors.

When an insider buys a large stake of the company they work for, it can be interpreted as a sign of confidence in the business. In fact, recent studies on insider trading have revealed that investors can outperform the market by 7 percentage points by following certain insider purchases.

So, using the latest 13F filing from David Einhorn's Greenlight Capital, let's look at the fund's holdings that also witnessed insider purchases since the beginning of the year.

Small-cap retail
First, let's have a look at Conn's , a $1.47 billion market cap specialty retailer of branded consumer durable goods. Einohrn's fund declared having started a position in this stock, with 3.3 million shares, in the first quarter. This holding is worth more than $120 million -- the 13th-most valuable position in Greenlight's portfolio.

Further, three insiders procured the stock between April 10 and April 14. R. W. Stephens Jr., who owns more than 10% of the company's common stock, was responsible for the biggest purchase: He acquired a total of 152,746 shares. Mr. Stephens' wife, Elizabeth Campbell Stephens, purchased 106,034 shares of common stock.

Finally, there's board director Kelly Malson, who bought 4,500 shares and now owns 9,328 shares of common stock.

Looking back, one can understand both Einhorn's and the insiders' bullishness. Conn's has several growth drivers, including a diversified "everything for the home" offering that sets Conn's apart from other big box retailers like Best Buy; store base expansion plans (for more than 200 stores nationwide); and strong customer relations that encourage not only stickiness, but also an increased usage of its credit offerings. Moreover, Conn's stands to benefit indirectly from the "oil rush" taking place in the Barnett, Eagle Ford, and Permian Basin shale formations -- all of which are located in Texas, where most Conn's stores are located.

Most likely, Einhorn was capitalizing on the deep sell-off that the stock experienced in mid-February after reporting lower-than-expected profit for Q4 2013. The poor performance can mainly be attributed to the weakness of its credit operation (basically, delinquencies got sky-high). This led to a low valuation, which provided an attractive entry point for investors.

However, insider and hedge fund support has helped the stock regain some of the lost ground. Since late February, the stock price is already up roughly 20%, and analysts expect it to continue to rise, up to $53 per share (median price target). Although the entry point is not as alluring as it was three months ago, the stock still trades quite cheap and offers plenty of upside potential.

Mid-cap REIT
Next up is American Capital Agency , an $8.3 billion market cap real-estate investment trust that invests exclusively in residential mortgage pass-through securities and collateralized mortgage obligations on a leveraged basis.

Typical mREIT investors seek for income and dividend sustainablity. In this case, a cheap valuation coupled with industry-leading margins and low debt levels make this stock an attractive investment option from the fundamental point of view. Moreover, an 11% dividend yield makes it a particularly appealing alternative for income investors. I should highlight, too, that recent analysis on the company's Q1 financial data (especially,  levels of net interest spreads and leverage) shows that this rate is sustainable. .

However, this yield also tells us that this is quite a risky investment. Over the long term, an expected increase in the U.S. Treasury yield could seriously hurt the company's returns. However, Einhorn's investment can be understood as a short-term bet seeking to capitalize on the accretive effect of American Capital Agency's share repurchases, the decline in interest rates, and its ownership of more than $400 million in stock in other agency mREITs. 

American Capital Agency is also a newcomer in Einhorn's equity portfolio. Over Q1, his fund acquired about 5.2 million shares, worth more than $110 million -- about 1.7% of the portfolio's value. In addition, John R. Erickson, executive vice president, CFO, and assistant secretary, has been particularly active this year, buying a total of 2,000 shares to bring his stake to 6,000 shares.

Micro-cap restaurant
Finally, I found Einstein Noah Restaurant Group , a $275 million market cap owner, operator, franchisor, and licensor of bagel specialty restaurants in the U.S. Unlike the previous couple of cases, this stock was already in Greenlight Capital's equity portfolio, and its position remained unchanged over Q1. The fund owns 6.7 million shares, worth more than $110 million. Einhorn's bet is most likely based on the company's growth history -- gross margins have surpassed 18% every year since 2006, while operating margins have remained above 6% -- and prospects. Going forward, franchise and license expansion are expected to drive earnings and margins growth while helping avoid the risks of operating company-owned stores. During the last earnings call, COO Emanuel Hilario said that approximately 150 restaurants remain to be built of commitments from franchisees. In addition, a 3.4% dividend yield and a 39.8% return on equity will make the shareholders' wait worthwhile.

On top of Mr. Einhorn, Einstein Noah board member Jim Simons seems to feel particularly confident about the company's future, having boosted his holding to 409,900 shares. Over the past couple of months, director E. Nelson Heumann purchased a total of 6,100 shares; Heumann now owns 50,680 shares of the company.

For further research...
So, with David Einhorn's Greenlight Capital and insiders betting on these stocks, should you, too? One thing is for sure: This kind of bullishness certainly makes these companies deserve deeper analysis to determine whether they're a fit for your portfolio.

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The article 3 David Einhorn Q1 Picks That Insiders Also Love originally appeared on Fool.com.

Javier Hasse has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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