Inside Info Gives Lawmakers Market Edge

Say you’re good friends with the CEO of Acme Corporation, the world’s foremost manufacturer of rocket sleds, giant slingshots and other implements of creative mayhem. One day, while playing golf together, she starts talking about a product liability lawsuit that’s been weighing heavily on her mind. While legal’s been doing all it can to delay the hearing, she’s not confident that they’ll be able to win this one once it reaches trial. It’s not the damages that are troubling her, but all the negative publicity the suit will bring to the company.

“If I were you,” she says, “I’d dump whatever stock you’ve got in us. Lay low for a while. Maybe buy some Ajax shares like I did. Normally, I’d never talk about this, but we’ve been through a lot together. And you helped my sister get her catering business off the ground.”

What happens when you follow her advice, call your broker and dump a suspiciously large number of Acme shares an hour later? The answer, of course, is that you’re in big, big trouble and that it’s only a matter of time before the Securities and Exchange Commission (SEC) shows up to charge you, and your friend, with insider trading. No one’s immune -- not even the SEC itself.

Oh. Unless you’re a member of Congress. Then it seems it’s all cool.

According to an NPR piece today, U.S. lawmakers not only can, but frequently do, take advantage of their immunity from the Securities and Exchange Act to press their insider advantage on market transactions. The piece cites a business professor from Georgia State University, Alan Ziobrowski, who conducted a study in 2004 that analyzed more than 6,000 stock transactions from U.S. Senators from 1993 to 1998. What he found was that members of Congress are able to consistently pick better stocks than corporate traders. According to the study’s abstract:

“[A] portfolio that mimics the purchases of U.S. Senators beats the market by 85 basis points per month, while a portfolio that mimics the sales of Senators lags the market by 12 basis points per month. The large difference in the returns of stocks bought and sold (nearly one percentage point per month) is economically large and reliably positive.”

The practice is bi-partisan, apparently. The NPR piece singled out Republican John Boehner and Democrat Dick Durbin, both of whom made substantial changes in their investment strategies after the pair attended a small group meeting with former Treasury Secretary Hank Paulson and Fed Chair Ben Bernanke last year, though both have denied benefitting from special information.

This immunity to the law that every single other person in the country has to follow has resulted in the creation of a lucrative industry in what’s called political intelligence, which, according to a 2005 BusinessWeek article, takes in a modest $30 to $40 million a year, trading in tips received from lawmakers, lobbyists and congressional staffers. Companies named by the article as major players in the political intelligence field include collapsed giant Lehman Brothers, and Stanford Washington Research Group, owned by Stanford Financial Group of Houston, the CEO of which is currently sitting in jail for his alleged involvement with a $7 billion Ponzi scheme.

Members of Congress, working against their rational self-interest, introduced the Stop Trading on Congressional Knowledge, or STOCK, Act in 2006, the legislation being authored by Rep. Louise M. Slaughter (D-NY-28), ranking member of the House Rules Committee and Rep. Brian Baird (D-WA-3). According to a fact sheet released by Slaughter in March of that year, the bill would essentially place members of Congress under current insider trading laws and require them to report any securities transactions over $1,000 within 30 days (though Members and employees who choose to place their stock holdings in blind trusts or mutual funds are exempt from this reporting requirement). Both members of Congress testified before the House Financial Services Committee on July 13 to talk about this bill.