1 Major Red Flag for This Explosive Quantum Computing Stock

Quantum computing stocks haven't been great performers over the past few weeks. Most pure-play companies involved in this technology sold off heavily, and D-Wave Quantum (NYSE: QBTS) was no exception. The market realized that these stocks had gotten far too hot, considering that commercially viable quantum computing is still years away. And with investors looking to reduce their risk exposure for a number of reasons, quantum computing stocks were among the positions that got sold.

However, regular investors and institutions weren't the only ones doing some selling. Insiders at these companies were too. Tracking insider trading is smart, as it can be an indicator of how much confidence the people with the most information about a company have in it.

So when someone in a top management position sells stock in their company, it can raise some red flags for investors.

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Insider selling can give false signals

Not all insider selling is necessarily bad. Executives are people too, and they have expenses just like everyone else. So sometimes, if they sell stock, it may be simply because they're buying a new house, paying a child's college tuition, or even making a prudent move to diversify their finances away from a single large investment in their employer. However, when a management team dumps a significant amount of stock, especially at a time when the sector is starting to attract more attention, this is worrisome to me.

If the potential market for quantum computing is as big as some claim, then having inside information about the trajectory of D-Wave's business should make management want to buy more shares, not sell them.

Furthermore, what CEO Alan Baratz sold was a significant amount of his stake. Investors have access to this information because insiders are required to file with the SEC whenever they make moves regarding their own stock.

According to filings this month, Baratz exercised some of his D-Wave stock options, then immediately sold those shares. He also sold some of his existing holdings. In the first case, he exercised options to buy over 806,000 shares at $0.91 apiece, then sold them that day at the current market price of about $28. This netted him over $22 million. His second transaction was to sell 168,000 shares of common stock at a price of $23.17 per share, netting him nearly $3.9 million. He still owns more than 2.6 million shares worth a total of about $56.5 million as of midday Thursday. And it's probably worth noting that even after their recent slide, D-Wave shares are up by more than 1,300% over the last 12 months.

For retail investors, there's a benefit to management teams owning considerable stakes in their companies -- it keeps their interests aligned with those of the shareholders, and tends to signal that the folks running the business are confident in its outlook. With Baratz selling a significant chunk of his stake in the business, investors should be worried. I want a CEO who's buying up shares, not selling. And this significant selling is troublesome.

The deeper question is, is there enough of a business here to consider investing in, even if management isn't as confident as one might wish?

D-Wave is taking an unusual approach to quantum computing

D-Wave isn't approaching quantum computing the same way as most of its peers. Instead of making a general-purpose quantum computing unit, it's pursuing a technology called quantum annealing. This will allow D-Wave's quantum computer to excel in optimization problems, making it ideal for improving logistics networks, artificial intelligence (AI) inference, and statistical calculations. Those fields represent a huge part of the initial quantum computing market, so D-Wave is focusing on worthwhile areas.

However, the applications where a quantum annealing system could be used are more limited than the quantum computers being developed by its rivals. Simply put, the technology will not be as broadly useful.

As such, D-Wave may find potential customers less willing to adopt its technology. Time will tell if this is the case, but so far, it is seeing some success. Its revenue rose 100% year over year in Q3, although only to a minuscule $3.7 million. D-Wave has a long way to go before becoming a viable company, and that may not start to happen until around 2030 or later, when quantum computing is forecast to become more widely adopted.

It's impossible to know today if D-Wave's technology will provide the hoped-for advantages over classical computers in real-world applications, or if the company will end up being one of the winners in the quantum computing industry.

If it does, its stock could skyrocket, even from its current speculative level of more than 260 times sales. There's no guarantee of its success, though, and it's also possible the company will fail and the stock will end up at $0.

D-Wave is a high-risk, high-potential reward investment, and investors considering picking up its shares must be aware of that. Expect the stock's price action to be quite volatile, and heavily affected by news releases -- such as those revealing that insiders are selling shares. While such sales shouldn't be deal-breakers for retail investors, it's worth considering whether that's the type of leadership team they want to back in a highly competitive technological race.

Keithen Drury has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.