Two new exchange-traded funds are seeking regulatory approval to list on a U.S. exchange to track the stock picks of U.S. Congress members and their families. The Unusual Whales Subversive Democratic Trading ETF (proposed ticker NANC) would follow the trades of the Democrats and the Unusual Whales Subversive Republican Trading ETF (KRUZ) would follow the trades of the Republicans.
Fuelled by revelations in the media over the years, polls show that the majority of Americans believe politicians on Capitol Hill use insider information from closed-door meetings of committees and other congressional gatherings to buy and sell stocks that are to be affected by legislative changes. As a result, they are thought to be well-connected investors who outperform the stock market.
Some academic studies have provided support for this view. For example, in a 2004 paper article in the Journal of Financial and Quantitative Analysis, Alan J. Ziobrowski and three other researchers concluded that senators outperformed the market by 12 per cent annually; in a 2011 Business and Politics paper, they found that members of the U.S. House of Representatives outperform by 6 per cent annually.
Several subscription investment websites, including capitoltrades.com, housestockwatcher.com and senatestockwatcher.com have also emerged to report on their trades. What makes these websites and the forthcoming ETFs possible is the STOCK (Stop Trading on Congressional Knowledge) Act of 2012, which requires congressional members and their families to disclose their stock transactions for publication on a government website.
However, more recent academic research based on the trading data generated by the STOCK Act since 2012 disputes the notion that U.S. federal politicians outperform the market. Specifically, William Belmont and three other researchers argue in their paper, Relief Rally: Senators as Feckless as the Rest of Us at Stock Picking (2020), that there is no statistical evidence supporting that view.
Research published by Craig Holman in 2017 for the non-profit organization Public Citizen found that Senate trades after the passing of the STOCK Act fell by two-thirds in the first three years (compared with the three years prior to enactment, based on data extracted from security transactions reported annually under the Ethics in Government Act of 1978). So that suggests the STOCK Act may have caused politicians to curtail their insider trading or else divert it through channels not compelled to report. Whatever the cause, it would appear the ability of published congressional stock trades to signal market-beating investments has diminished considerably.
Contributing further to the dilution in information content are several aspects in the way reporting requirements have been implemented. For one, the delay of up to 45 days allowed in reporting trades makes the data somewhat stale. For another, the burden of proof for violations is high and penalties are only US$200 fines (which can be waived). It’s perhaps not surprising that when many lawmakers do report, they are several months to more than a year late, as Businessinsider.com recently pointed out.
In short, NANC and KRUZ, if approved by regulators, may disappoint at delivering a market-beating performance. Even if they were capable of outperforming, it’s possible they may not be around long enough to do so. Congress is currently considering legislation to ban stock trading by Washington politicians, and by most accounts, there is a good chance it will go through this year. Instead, members of Congress will be required to set up blind trusts or to buy only ETFs and mutual funds.
Larry MacDonald also writes at Investing Journey.
Special to The Globe and Mail