Does Congress Beat the Market? Part 1: Ziobrowski 2004
Everybody suspects that Members of Congress have the upper hand when it comes to investing. For many years it wasn’t even clear that insider trading regulations actually applied to Congress, because having broad insider information was just seen as part of the job. Moreover, screening or limiting Members’ investment activity has historically been viewed as both a breach of their personal liberty and a violation of our Constitution’s separation-of-powers architecture. After all, Congress is the legislative branch and the Securities and Exchange Commission (SEC), which investigates insider trading, lives in the executive branch.
Today, the legal question of “Can Congress legally trade on insider information?” has been clearly answered. No, they cannot. However, that answer has emerged, in part, due to a narrowing of the definition of insider trading. In practice, charges of insider trading against Members of Congress are rare, difficult to prosecute, and generally require at least tacit cooperation from the legislative body itself.
We are neither lawyers, nor prosecutors, so we are less interested in the “Law and Order” aspects of insider trading. Instead, we care about whether Congress outperforms the stock market and don’t need to get too worked up with how they do so. Who knows, maybe the skills required to run a successful political campaign match up brilliantly with the skills required to be a superstar investor?
Maybe l’ll grow wings next year, too.
Fortunately, this question (Congressional investment, not my wings) has spawned a number of academic studies. As the starting point for our own research, we’ve focused on four major studies of Congressional investment. Each of the studies has a different methodology, covers a different time period, and comes to a slightly different conclusion - so one of FinePrint’s first goals is to replicate them, but with better and more timely data.
Since summarizing each study will take several articles and lots of time, here’s my takeaway:
It sure looks like Congress invests differently. Whether "better" or "worse" depends on how you measure investment performance, because most Members also appear to avoid taking investment risks. At the end of the day, I believe both that Congressional positions influence their investments AND that Congressional investments influence their positions.
With that line in the sand, let’s look at the first study from 2004: Abnormal Returns from the Common Stock Investments of the U.S. Senate by Alan Ziobrowski (and others).
Here, Ziobrowski and his co-authors wanted to test whether Senators’ investments outperformed the market by separately analyzing the Senators’ purchases and their sales of exchange-listed stocks. Ziobrowski then built a portfolio of the purchased stocks and another of the sold stocks and measured each portfolio’s performance against that of academic stock market models that control for risk.
The bottom line is the Senators’ beat the market with their purchases by ~11% per year, and the stocks they sold underperformed the market by 1% per year. This study covered all reported Senatorial stock transactions from 1993 to 1998. Here’s an impressive graph from the paper tracing the relative performance of the two portfolios. Note how steep the red line gets after “Day 0” - which is the day it was purchased.
On its face, Ziobrowski’s findings offer strong evidence that Senators did very well for themselves as investors. In fact, both this study and Ziobrowski’s follow-up (which covers the House of Representatives from 1985 to 2001) find evidence of Congressional outperformance.
This paragraph from the conclusion summarizes their findings well:
“...it seems clear that Senators have demonstrated a definite information advantage over other investors…”
These studies also had a large impact on the public debate about Congressional investment, getting substantial media coverage and creating pressure for Congress to clarify its disclosure and regulatory coverage. This led to the STOCK Act of 2012, which President Obama signed into law. (In the tradition of cringe-worthy acronyms in Congress, STOCK stands for Stop Trading on Congressional Knowledge. Our legislative history of the Act is available here).
Four final points regarding Ziobrowski 2004:
This study covers a period of time when the stock market was strong. From 1993-98 the S&P500 was up by ~150%.
Congressional investment disclosures were even more difficult to aggregate and study back then, so any self-dealing would have been more difficult to detect, meaning that behaviour might have been more flagrant than now.
The academic stock market model Ziobrowski uses to represent “the market” has since been expanded and there is some debate about what the appropriate measuring rod should be for market outperformance.
A stock’s performance is only included for 255 days from the purchase or sale. Deviation from the market after that time would not show up.
These four points will be worth expanding upon in the next summaries, but for now, let’s all wish that we’d been investing like our Senators in the early 90’s.