Capitol Gains

I have written several times before (e.g. here and here) about how Washington insiders, politicians and staff, use their knowledge of behind the scene deals to profit in the stock market (see also Megan McArdle’s recent piece from which I stole the headline). Last night 60 Minutes reported on the story based on new research in Throw Them All Out a forthcoming book by Peter Schweizer.

Here is one bit from the transcript:

In mid September 2008 with the Dow Jones Industrial average still above ten thousand, Treasury Secretary Hank Paulson and Federal Reserve Chairman Ben Bernanke were holding closed door briefings with congressional leaders, and privately warning them that a global financial meltdown could occur within a few days. One of those attending was Alabama Representative Spencer Bachus, then the ranking Republican member on the House Financial Services Committee and now its chairman.

Schweizer: These meetings were so sensitive– that they would actually confiscate cell phones and Blackberries going into those meetings. What we know is that those meetings were held one day and literally the next day Congressman Bachus would engage in buying stock options based on apocalyptic briefings he had the day before from the Fed chairman and treasury secretary. I mean, talk about a stock tip.

While Congressman Bachus was publicly trying to keep the economy from cratering, he was privately betting that it would, buying option funds that would go up in value if the market went down. He would make a variety of trades and profited at a time when most Americans were losing their shirts.

Even though the Congress is exempt from insider trading law, many of 60 Minutes’s findings are hugely damning, which you can tell just by looking at the stunned faces of John Boehner and Nancy Pelosi when Steve Kroft questions them about their special dealings. The video is here.


Insider Trading is good. ;)

It is not necessarily good, but it is more a problem of management rather than Congress.

Unless Congress is doing it, and in that case we are management.

Congress should include itself when it passes a law. These Congressmen are doing far more harm to their country than traditional inside traders do. Looked from another when, why is insider trading even illegal for private individuals when congressmen can do it with impunity?

Same question...

Theory: The reason its illegal for business insiders is so congressmen can get more alpha.

To be fair, this is sort of a second-order problem compared to what Darrell Issa's done since he came to DC.

I am very curious as to what Darrell Issa has been up to that this is a second-order problem to? Is this in reference to the usual Koch allegations, or is it something more substantial.

Btw, one thing about this story is that two of the three named pols are Republicans, so it really doesn't have to be that partisan.

Corruption has always been bipartisan.

Infrastructure projects in his district are curiously proximal to his real estate holdings, amongst other things. There was a good investigation in the NY Times this summer. The last decade wasn't a particularly good one for commercial real estate, but it was for Issa.

As far as the 1st order/2nd order thing goes, the allegations here are that Congressmen used private information regarding corporate affairs to profit personally. That's hugely unethical, but unless the moves they made were incredibly large it probably didn't affect anyone else. Issa, in contrast, is accused of actively engaged in shaping the actions of Congress--earmarks benefitting his personal investments, selectively investigating finance firms in ways that won't hurt his investments--in ways that potentially have huge, negative external effects that could dwarf his personal benefit.

A good investigation? You mean the one that resulted in the NYT issuing not one, not two, but four corrections?


Insider trading may be good, or at least not bad, but there's nothing good about a law that says nobody but government officials can engage in insider trading.


Anyone know the legal history? Did the exemption for congressmen always exist after insider trading was made illegal or was it sneaked in at a later date? What was the rationale behind the lawmaking or was this forthright shamelessness?

There is no exemption, and I dare anyone to point to it.

"To the frustration of open-government advocates, lawmakers and their staff members largely have immunity from laws barring trading on insider knowledge that have sent many a private corporate chieftain to prison."



I read the article. It doesn't say they have an exemption from corporate insider trading rules. It says they have an advantage over the citizenry with more political knowledge. I have better knowledge than you do of the likelihood of a merger being approved by the regulator, and in fact, have advised a hedge fund on the likelihood of challenge, based on merger law and the market analyses that I ask the hedge fund analysts to do. That is not insider, any more than a congressperson thinking that his fellow members will vote a certain way, that it will pass another branch, and be signed into law. What would be illegal would be taking stock for a vote, using information gathered by the committee in an investigation, trading a vote for information from an analyst to invest, etc. House and Senate rules govern this stuff, and 18 USC 1905 governs use or disclosure of trade secrets and other financial information, and insider trading rules apply as well as to tippers and tippees from corporations.

JWatts, If you think about it longer, ask yourself whether you could elect a businessman to Congress and require that person to divest his business holdings. Or, whether a doctor serving on Ways and Means or Senate Finance would have a conflict if the voted on any Medicare issue, when they receive funds from Medicare.

JWatts, Don't get me wrong on one point, however: if a Congressperon gets an earmark in some legislation, buys stock prior to enactment and works with the business to get the bill passed, that would be, I believe, a violation of ethics rules.

The situation is apparently even worse in this professor's opinion:

PROFESSOR: Oh Please, Of Course Congressional Insider Trading Is Totally Illegal

"Congress has never statutorily defined the offense of insider trading in securities.18 Rather, Congress has been content to allow insider trading to be prosecuted as a violation of Rule 10b-5, a general antifraud rule..."

"The result is that U.S. insider trading law has been almost entirely

Good old Congress, ensuring the appearance of the rule of law.

I am amazed that American officials at this level don't keep their assets in a blind trust. I thought that was common good governance practice. (A blind trust means the beneficiary doesn't know how the money is invested).

Trusts are a good solution.

Blind trust is what the average voter extends to government.

And corporations and strangers in general.

I've heard that many of them actually do. Not sure how they decide if or not to do this.

OTOH, I've remember articles where by correlating trades and information post facto statisticians have debunked much of the alleged utility of blind trusts.

Information finds mysterious ways to seep through the most impermeable of barriers.

You probably can't think of things like that as solutions but as incrementally raising the cost of corruption.

That, and most congresspeople don't have the time or even intellect to figure that stuff out (maybe with the exception of that new jersey physicist guy), let alone think of that in the first place.

Interesting. Can you name some of this research? I just did a quick look on Google Scholar and didn't find any relevant results.

Cheney did, as did many members of the Bush administration. The Obama hasn't been as ethical, however.

This is why it is good to have the GOP control the House -- the media suddenly becomes interested in Congressional corruption.

Much like it is preferable to have a Dem President. You can have all the wars you want, and there are no silly anti-war protestors.

So we're basically living the dream these days.


Poor conservatives. People are so... (sob)... mean to you guys that It breaks my liberal conspiratorial heart sometimes.

What is probably more common is that lobbyists may even know more than individual congresspersons about the likelihood of legislation, amendments being accepted, etc.

In fact, hedge funds employ lobbyists to gather this type of political intelligence.

For example, what is the probability that the Supercommittee will complete its task on time.

Here's my bet, from a lobbyist: That they won't, as such. What they will do in effect is sequester and send back to the standing committees their targets for reductions, with the committees to cut, and with respect to revenue, will send to Ways and Means targets for revenue, which can be achieved by deduction cuts or by tax increases. Look for a battle ending in March.

This is not insider information, but just political judgment: that the supercommittee members don't want to step on the toes of committee chairmen who are unhappy with their power being limited.

You heard it here first.

By the way, this lobbyist gave me this opinion three weeks ago while we were on vacation. He is a cynic, and you can always bet on cynicism if you know how Washington works.

Right, this isn't actually insider information. But, you know, whatever - as long as you can bash the government, let's go with it!

How not?

In their capacity as regulators, both the Fed and Treasury have access to material, non-public information from financial firms. When making the assessment that we are on the precipice of financial collapse, I presume that they are leveraging this information and discussing it with the committee in these closed door meetings. If the congressmen/women in attendance then trade on the basis of that information is that not, by definition, insider trading?


The question would be whether there was disclosure of specific information about a company. So, general discussion of economy by Fed to congress wouldn't be material; specific disclosure of info re Bank of America would be. Second, I do not know of an exemption from insider trading rules for members of Congress; its just that its not insider because a congressperson is not an insider of the corporation, nor the recipient as a tippee. Finally, 18 USC 1905, the Trade Secrets Act, applies to members of congress and executive branch and all government employees; this statute prohibits use or disclosure of trade secrets and other financial information.

That's what I thought, but the Keynesians would say we are just one big firm. Being serious. If you are voting on something that allegedly prevents cataclysm, then just deal in the S&P500 stock index. I'm not sure why specific company changes the discussion except for a law that is probably wrong.

No they wouldnt.


Oh, they don't deal in aggregates?

My understanding is that insider trading is not a function of a person's position or relation to an insider but their access to material non-public information. If I am an independent auditor for GM, I am not a corporate insider and no one is tipping me off but I am still prohibited from trading on material non-public information that I have access to as part of my job. Similarly, if I am an independent auditor and cover many auto manufacturers, is it OK for me to short the auto industry on the aggregate knowledge that many of my clients are likely to report poor quarterly results for some reason?

I don't know the letter of the law as it regards insider trading so perhaps this falls into some gray area, but trading on this type of information (even if it's simply in aggregate) seems to violate the intent of the law. This is information that is not readily available to the public and you couldn't assume that a reasonable and informed investor would come to the same conclusion without the benefit of access to this information.

Jinx, Then show me the exemption.


You don't think that if someone can't be charged with profiting from actions of The Fed then that is a problem of consistency in the law?

This is actually much worse than typical insider trading, as these guys are making decisions. I don't think letting Lehman Bros. go was motivated by personal gain, but could that never happen?

To clarify my position, I'm not claiming that there is any exemption. Bill, are you saying that because Bachus was not prosecuted he is not guilty of breaking the law? I'm not sure I'm clear, but if that's the case, that logic seems faulty. There are plenty of examples of people that break the law and are never prosecuted for the transgression. That doesn't mean that they aren't breaking the law though.

As I see it, the big question here is whether Bachus is trading on material, non-public info. I'm claiming that I believe he was and, hence, is guilty of breaking the law as it pertains to insider trading. The fact that he hasn't been prosecuted is ancillary to the question of whether he broke the law or not.


The way to understand this and separate it from insider trading is to ask this question: would it be illegal for a corporate insider to tell someone else, say, the intentions of a corporation. Yes it would. Would it be illegal for a member of Congress to tell a constituent, an interest group, etc. whether he/she thought a piece of legislation would pass or not. No it wouldn't.

So, what separates both situations.

One is corporate information; the other is basically public information. Knowable if you ask (I also make an exception here for information obtained from a corp, information obtained in executive session, which are both handled by instutition rules).

I'm very liberal, and my dad is very liberal, and when I was a wee nipper in the '60s, my dad told me the advice he got in the 50s from his college PoliSci prof
(ya gotta understand, this is new york)
always vote against the incumbent, cause it takes the new guys a few weeks to figure out how to steal stuff

Great advice!

On a related note I think there's some merit to changing laws and regulations somewhat often. That's the only way to prevent smart people from gaming the system. Human ingenuity knows no bounds.

But there's also a huge cost to changing regulations. I think the problem is too much complexity. People are not easily able to game simple, clear-cut systems. And if they do, there is more accountability, because non-experts understand what is going on.

I agree about the cost. It's not pragmatic to change often.

OTOH I think at least a part of the complexity of regulations actually comes out of a desire to defeat gaming. Simple need not mean hard-to-game.

I think the complexity is a feature, not a bug. Them that writes the rules typically know how to skirt them.

So the point of regulations is to trip people up?

I thought the point of regulation was to forbid bad practices.

In a discussion on term limits one liberal guy said "why do you think that governing is the exception to the idea that you want someone to have as much experience as possible" and my response was "government has managed to make being a politician one job where experience can be a bad thing."

The answer is "Experience at what? Making laws, or lining their pockets?"

one thing has made me very skeptical of term limits:

California. The utter collapse of the states budgetsry process almost exactly coincides with the implimentation if term limits. And it didn't even change personnel, it just moved the top dogs away from the legislature. It now has a musical chairs game every few years in which everyone swaps offices, if you account for age, all the pols are pretty much the same crew we've had for twenty years.

It doesn't work and it just empowers the permanent staffers and most of all the lobbyists, because every ambitious assemblyman has to immediately start looking for promotion.

to roys point about CA, isn't that exactly what all us flaky liberals said would happen (sound of shoulder strain from patting oneself on the back)

All systems that can be understood and administered can be gamed, and will be, immediately.

We can't "prevent smart people from gaming the system", at least not without causing orders of magnitude more damage than they could ever do.

(Assuming that "gaming the system" is damage - which I don't. "Not getting the effect the lawmakers really, really wanted" is not damage done by people who didn't just Do What They Wanted. It's their own damned fault for making the rules they made, the way they made them.

They're not handing down The Law as a Platonic ideal, from on high, that we're morally bound to follow in its stated intent. Fortunately, since the stated intents are so often utterly foolish.)

The "problem", such as there is one, seems to be that lawmakers somehow haven't gotten the idea that all systems get gamed all the time, always, and then act "shocked, shocked" to find that gaming of the legal systems they created is occurring.

If people expected it at all times and planned accordingly (not by "stopping it", as it is impossible, but by including gaming it in their calculus of evaluation when deciding how to arrange things), things would probably work more smoothly - at very least there'd be less "unintended consequence" (more accurately, less un-predicted consequence).

Unless there's some Real And Important Reason why the legal and regulatory situation needs to be complex, we're probably all better off with it being simpler; compliance costs are lower, enforcement costs likewise, fewer grey areas, less room for rent-seeking. Less complexity to "game", more clarity.

"how Washington insiders, politicians and staff, use their knowledge of behind the scene deals to profit in the stock market" ... two reactions/questions:

1) How do the allegations against the folks in Washington compare to the WSJ coverage ( ) of "Raj Rajaratnam a billionaire hedge-fund impresario who built his fortune in the relentless cultivation of corporate contacts, was convicted Wednesday on all 14 counts of securities fraud and conspiracy against him in the biggest insider-trading case ever, likely accelerating an unprecedented wave of prosecutions rocking Wall Street." Yes, I would agree that there should laws against trading on inside information AND they should be enforced by the government.

2) There are many, many folks in Washington who serve the American people and who do NOT abuse their positions for personal financial gain (like insider trading). Sure there are exceptions (note: the folks in your post are innocent until proven guilty) and we as a society have to stay vigilant. I am all for shining a light on illegal misdeeds, particularly with an eye toward fixing the system and avoiding repeat problems.

Do you agree?

To speak a little contrarian here, I don't think Bachus was acting on inside information: it was public knowledge to bankers of the condition of banks before it was knowledge to Bernanke and thus before it was knowledge to Congress.

Insider trading would be to purchase stock in a company if, as a member of congress or staff, the company had business before the committee and the committees action would benefit it and you purchased before the event was known.

I believe ethics rules currently would govern this. Congress folks have to file disclosures.

When was the last time a Congressman had any serious consequences due to a mere ethics violation?

Right. "Covered by ethics rules" is not enough when it is illegal for the general public.

Current matter under investigation; note the House Rules:

U.S. Rep. Phil Gingrey may have received stock benefits in violation of congressional ethics rules from his role as an insider of two Georgia banks, one of which failed, according to a report Wednesday by Thomson Reuters.

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Gingrey, R-Marietta, serves on the board of Hiram-based WestSide Bank. He formerly served as a director of Bank of Ellijay, which he left several months before its failure in September 2010.

The news agency reports Gingrey received warrants to buy stock in the banks in exchange for his board service. Two former House ethics attorneys told Reuters that would amount to outside compensation in violation of U.S. House rules.

Gingrey’s spokeswoman, in a statement, denied any wrongdoing, and said Gingrey lost his full investment in Bank of Ellijay when it failed.

Gingrey helped start both institutions, and his investments in both were once worth as much as $500,000 each, according to federal financial disclosures. It's a rarity for a sitting member of Congress to serve on multiple bank boards, ethics watchdogs say.

Members of Congress are not allowed to accept compensation for service on a corporate board, Reuters reported, and Gingrey said in financial disclosures he was as unpaid director.

Warrants are similar to stock options, and allow the holder to buy stock at a later date for a set price

The stock and stock warrants for Bank of Ellijay became worthless after the institution failed, and any value in warrants for WestSide stock also would have diminished as the bank has struggled amid a raft of bad real estate loans.

Former counselors with the House Ethics Committee told Reuters the warrants would be considered compensation, even if they were ultimately deemed worthless.

Source for above quote:

Rather than blind trusts, how 'bout their pension hast to be invested in a Total US ETF and it doesn't vest until they are out of office for 10 years.

Shocking! Politicians use their positions to enrich themselves at the expense of the public. Everyone is stunned in disbelief!

Which way did Bachus vote on TARP the first time when it failed? Was he voting his book? He stood to make millions if he bet enough on out-of-the-money options.

Looks like voted for TARP both times:

Good thing or else he could have been in major trouble.

Congress should mandate that representatives either 1) move everything to a blind trust or 2) co-invest government money leveraged 10/1. So if Pelosi has $20k of her own money to invest, she can also invest $200k from the Treasury. She doesn't get to keep the profits, but she can point to the success of her portfolio as a reason to re-elect her. And the profits go back to the treasury with a 20% share allocated specifically to her district. Kind of like a hedge fund.

As if the treasury isn't losing enough money already!

And how do you deal with the spouse and other relatives? Pelosi derives her wealth primarily from her husbands resources.

This is a trickier issue then it appears on it's face. Their is a long history of congress being exempt from many laws and regulations applying to the rest of us. (OSHA, Civil Rights Laws, etc.) Of course, we don't want a corrupt congress, but the exemptions dating from the earliest days of congress have sound political reasoning. Specifically, they were intended to prevent the executive from being able to put political pressure on congressmen by easily charging them with a crime real or contrived. This unintended consequence should not be taken lightly. Fear, in the form of a threat of prosecution from the executive can be just as corrupting as greed and would be concentrated in the hands of the president. The traditional answer has been for congress to police and censure itself (historically very mildly.)

I am having a very hard time identifying negative policy implications of mandatory blind trusts.

There are none. It just won't happen, because rent seeking is the purpose of government.

Meh. If you require blind trusts, then they will just tip off their friends and relatives. A step in right direction perhaps, but if you don't make illegal trading illegal for them then it will just make the graft more roundabout.

gives a pretty good summary. You are correct, Bill that there is nothing in the laws themselves (which are notoriously vague) which exempts Congress. However, as the link points out, a Congressman who does not get information from the Company and who does not have a fiduciary duty not to trade (note that this covers the auditors, lawyers and other hired outsiders Jinxremoving mentioned above) can trade. The point is that Congressional discussions and/or things Bernanke tells you are not generally considered "material nonpublic information," which is a legal term whioch doesn't have the normal English definition one might expect. Thus, while material and nonpublic and information, they aren't "material nonpublic information." That said, the cool thing about insider trading laws is that they are deliberately so vague that they can be stretched to include stuff like this when someone wants to, albeit at a risk of losing the case.

There are rules of both bodies which govern the disclosure of non-public information (ie, company info, info from exec session (which might include the Bernanke matter), and 18 USC 1905 which applies to all govt employees (disclosure of trade secrets and financial information obtained from third parties).

The executive branch is better at this in defining what can and cannot be done. But, ask yourself, can a CIA oil analyst invest in oil companies? Can a Fed official buy or sell bonds.

It's mostly about duty. We aren't talking about information that one learns from a company. We all agree noboidy can trade on that. The representative has information about how Congress is going to vote. Can he or she trade on it? As bainbridge points, a staffer of such a representative probably can't because of his duty to the Congressman. But the only duty a Congressman has is to the people he serves and the Constitution and its laws, and it's a duty which is re-evaluated regularly by his or her constituents. So if the people want to throw him out for trading on front-running Congressional votes, they can, and I believe, should. But that doesn't make it illegal. And if Congress wanted to vote for making it illegal, I'm good with that too. But it's in a gray area as of now whenever the information isn't misappropriated.

You can probably ask your representatives how they are going to vote. Just pick up the phone. That a representative has knowledge of congress will vote is not knowledge. Lobbyists know how specific other congresspersons from both sides of the aisle will likely vote, and have better knowledge than even than congressperson. If it involved an earmark followed or preceded by purchase of stock, or an exchange of stock for a vote, I think the rules and federal bribery statutes govern.

I am in favor of full disclosure, by the way, including stock trades, investment holdings, etc.

Sunshine disinfects, as does your opponent.


The paper reported by Frankhpns also reports: "Members of Congress are required to submit disclosure reports each spring, detailing their
year-end holdings as well as all transactions made during the year. Since 2004 the Center
for Responsive Politics ( has transcribed the reports, and since
2008 they have made this data freely available."

Information rules as does knowledge that others are looking over your shoulder.

Sorry, paper noted by Dave Hansen; sorry Frank.

What else would expect from the largest criminal organization on the planet. Unless we establish term limits, limited lobbying, reduced or no salary for members of congress, unless they balance the budget every year, we are going to go down the tube from corruption. Divide and conquer, should be the namesake of the congress. Democrats vs Republicans, there is fundamentally no difference. They are all on the take. The grand design is to dumb down the population and keep us all riled up, thus diverting our attention from the real activity.

I don't doubt that members of Congress try take advantage of the information they have for financial gain, but recent evidence suggests that overall, they're poor investors.

Political Capital: The (Mostly) Mediocre Performance of Congressional Stock Portfolios, 2004-2008

Andrew Eggers { Yale University
Jens Hainmueller { Massachusetts Institute of Technology

We examine stock portfolios held by members of Congress between 2004 and 2008. The average investor in Congress underperformed the market by 2-3% annually during this period, a nding that contrasts with earlier research showing uncanny timing in Congressional trades during the 1990s. Members invested disproportionately in local companies and campaign contributors, and these \political" investments outperformed the rest of their portfolios (local investments beat the market by 4% annually). Our ndings suggest that infor-
mational advantages enjoyed by Congressmen as investors arise primarily from their relationships with local companies, and that widespread concerns about corrupt and self-serving investing behavior in Congress have been misplaced.

complete disclosure of all investments should be mandatory for all politicians while in office. they should be submitted some short time interval before the trades are made announcements of these investments should also have their own sections in newspaper business sections, as well as up to the minute updates on concerned websites. we cannot stop insider trading by people who make the insider trading rules. but if we could see what they were up to, and our supposed 4th estate kept an eye on them, i think we would have two positive results. first, the abuse would be somewhat discouraged and more difficult. second, others could simply copy their favorite inside trader, and their advantages could be gamed by others too!

There are annual disclosure statements with this information.

annual doesn't do any good in this case.

would you be excited to pick lotto numbers if the winning numbers were disclosed the year after they win?

i should rephrase that...

*annual doesn't do as much good as more immediate disclosure, in this case*

though i do admit, this would not fix the problem of "helping" a stock that one already owns. i see that as at least as big a concern.

We currently have annual, and it is the basis upon which the guy wrote the book and everyone looks at and writes papers about.

The example of congresspersons having a meeting and later selling stock has a problem with causation. Many people were selling stock for the same reasons at the same time. In fact, bankers would even know more than congressperson. Unless Bernanke revealed information about a specific stock, and the congressperson sold on the basis of this information, I see more mole hill than mountain. I would recommend that everyone read Thinking, Fast and Slow.

I was a general securities principal at a b/d in the 80's and 90's. it was common to give hot ipo's to politicians.

pres. clinton gave a speech on the floor of Merck basically saying....your pricing power is dead - 'cause the government is going to take it from you because we just can't afford the cost. Merck bottomed that next month. clinton's money manager had a big short position in Merck at the same time. I don't know if it was a blind trust and this was just by chance? Their good friends at Tyson foods helped them on some spectacular long positions.

the idea that this is just coming out because of Jack Abramoff's charges is crazy. Both sides are guilty and there's no way this will stop. It's just too easy and it's legal too.

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