Portfolios of Members of Congress *Underperform* the Wider Market

by Joshua Tucker on November 15, 2011 · 3 comments

in Legislative Politics,Political Economy

In the best spirit of The Monkey Cage, Princeton political scientist Nolan McCarty applies research by political scientists to the unfolding story of whether members of Congress have benefited from insider trading:

A recent 60 Minutes segment and a new book claim that members of Congress from both parties have benefited financially from inside information obtained in the course of their legislative duties.  Not surprisingly, the specific targets of these charges (Nancy Pelosi, John Boehner, and Spencer Bacchus) have denied doing anything illegal or unethical.

Of course, a major part of the story is that these legislators could not have done anything illegal, because there are no laws against insider trading by members of Congress.  There are vague House ethics rules against profiting financially from their official positions, but the best I can tell the House ethics process has rarely if ever been used for allegations against congressional insider trading.

Obviously, I am in no position to evaluate the specific charges highlighted on 60 Minutes or the defenses offered by the individual legislators, but there is an excellent study by Jens Hainmeuller and Andy Eggers evaluating whether or not members of Congress earn excess returns on their stock portfolios.  If insider trading were pervasive, one would expect congressional portfolios to outperform the broader market.  But this is the exact opposite of what Hainmueller and Eggers find.  In fact, legislators are generally bad investors.  Their portfolios consistently underperform.  My personal hunch is that members are often forced into weak investments for political reasons and that this works against maximizing the value of their portfolio.   Hainmueller and Eggers find one important exception to congressional underperformance.  Legislators do well with their investments in firms located in their districts.  They find, counter to the presumed effects of insider trading, that these excess returns are not due to the timing of transactions, but to the superior selection of which local firms to invest.

Of course, I can’t help wondering whether there might be a selection effect at work. I mean, if these people were better at stock trading, maybe they wouldn’t have to run for political office in the first place. Or, conversely, maybe being in Congress makes good traders into bad traders….

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