Politics Pays: Evidence of Insider Trading Among Congressmen

It’s funny — when we ran a quorum recently asking what should be done about insider trading, no one mentioned cracking down on Congress. Maybe they should have?

A new working paper from Feng Chi, an economics PhD. student at the University of Toronto, is called “Insider Trading on K-Street: Are Politicians Informed Traders?” Here’s the abstract:

I investigate whether politicians take advantage of their privileged information that comes with their positions in power. Analyzing the trading records of Congressional members, I find that informed trades beat the market by 8.2%. As these gains accrue over the short term, my findings are suggestive of informed trading based on time-sensitive information.

And a couple of choice paragraphs:

Despite the potential for exploitation, Congressional members are generally free to invest in companies they help oversee. In addition, existing insider-trading laws do not apply to lawmakers. Probably to no one’s surprise, proposed bills to eliminate insider trading among Congressional members garnered little support on Capitol Hill. … My research investigates whether members of Congress in fact make use of their information advantage. I identify informed trades based on committee memberships. As committees are intimately involved in the process of bill passage, committee membership provides a parsimonious link between a politician and any inside information that affects relevant industries. Using their portfolio holdings, I find a 2% difference in returns between informed and uninformed stocks. Detailed analysis of their trading behavior reveals that value-weighted portfolios of informed trades outperform the market by 8.2% in the following month, while portfolios of uninformed trades yield negative abnormal returns. Furthermore, the gains accrue over a short horizon, indicative of time-sensitive insider information.

(HT: Nathan Yang)