Insider trading laws do not apply to members of US Congress

May 27, 2011 10:46 AM

Insider trading laws do not apply to members of US Congress. And it shows, an academic study found members of House beat the market by 6% annually from 1985 to 2001, outperforming hedge funds, not to mention Raj Rajaratnam and Martha Stewart.

On the flip side, insider trading is considered against the "rules" of Congress, and thus potentially a House Ethics Committee problem, though no illegal. And, as elected officials they could get voted out of office if seen as lining their pockets. But as the data suggests, there is not much oversight and it appears to be systemic.

posted by stbalbach (51 comments total)

Congress = outstealing the professional thieves
posted by kanemano at 10:49 AM on May 27, 2011 [2 favorites]

It's kind of mind-blowing that insider trading is legal for members of congress.
posted by delmoi at 10:50 AM on May 27, 2011 [9 favorites]

We could make them divest themselves of all holdings, but then there are spouses and children and parents and friends ... so we create an index fund based on the holdings of the Senate and the House, with higher weighting given to more recent representatives and to Democrats.
posted by adipocere at 10:50 AM on May 27, 2011 [7 favorites]

"It could probably be shown by facts and figures that there is no distinctly native American criminal class except Congress."
posted by sbutler at 10:51 AM on May 27, 2011 [3 favorites]

Insider trading laws do not apply to members of US Congress.

lolwhat
posted by DU at 10:52 AM on May 27, 2011 [3 favorites]

so we create an index fund based on the holdings of the Senate and the House, with higher weighting given to more recent representatives and to Democrats.

Yeah that would be awesome. It would require real-time trade information, though. I think members of congress only need to disclose every quarter or year or something.
posted by delmoi at 10:52 AM on May 27, 2011

In other news: it looks like we might be better off if Congress just gave up and went home.
posted by ghharr at 10:58 AM on May 27, 2011 [2 favorites]

I haven't read the article, as it's behind some kind of registration crap, but I have one immediate question: what if it isn't insider trading at all?

Think about it: when leveled at a hedge fund manager, "insider trading" means using ill-gotten information to make actual trades, i.e. buying this or selling that. But that's about it, as said managers can't generally make stocks go up or down.

But a congresscritter potentially can, by voting or even just talking about votes related to stocks that they already own. Which is admittedly self-dealing even if not actually corrupt, but isn't technically insider trading, as it doesn't necessarily involve making any actual trades.

So I'm not at all sure this would require real-time information, as even a congresscritter who made no trades at all could still wind up ahead of the market by carefully exerting their political influence.
posted by valkyryn at 11:00 AM on May 27, 2011 [5 favorites]

Yankton cocksuckers are with us always.
posted by Trurl at 11:01 AM on May 27, 2011 [14 favorites]

Where in the law does it say that insider trading laws do not apply to members of Congress?
posted by gagglezoomer at 11:03 AM on May 27, 2011

I don't believe there are any exceptions in the securities laws for members of Congress. As noted in the Post article:

Ethics laws allow senators to hold stocks in industries they oversee. They also may push and vote for programs that could improve the bottom lines of companies in which they own stock. They are precluded, however, from taking official actions that could boost their personal wealth if they are the sole beneficiaries.

posted by exogenous at 11:03 AM on May 27, 2011

Yeah that would be awesome. It would require real-time trade information, though. I think members of congress only need to disclose every quarter or year or something.

So cut them in.

In exchange for disclosing their trades as they make them, give them a small cut of the management fee of the fund. It's potentially legal (they're not disclosing *why* they made the trades they did, they're simply saying that they made them) and cheap (since even a fraction of a big fund's management fee can serious dough).

As an added bonus, it'll probably stay legal after it's started since the lobbying is effectively built in.

So... uh... anyone know anybody at Vanguard?
posted by -1 at 11:03 AM on May 27, 2011

I think it would be illegal somehow for a member of congress to get paid as a fund manager. The easy thing would simply to just require real-time disclosure.

Also, like other people said I'm not sure this is actually 'insider' trading. Members of congress would know about upcoming bills and so on, but that information isn't generally secret. They would know the status of upcoming negotiations as well, but so would lobbyists, etc.

It would be interesting to look at the performance of the portfolios of top lobbyists as well.
posted by delmoi at 11:09 AM on May 27, 2011

Yankton cocksuckers are with us always.

Doo-dah! Doo-dah!
posted by Naberius at 11:15 AM on May 27, 2011 [5 favorites]

Damn, I didn't think I could get any madder after the Guerena thread.
posted by adamdschneider at 11:20 AM on May 27, 2011

Also, like other people said I'm not sure this is actually 'insider' trading. Members of congress would know about upcoming bills and so on, but that information isn't generally secret.

But they can also subpoena information and testimony from companies, information that may otherwise be secret or confidential.
posted by jedicus at 11:23 AM on May 27, 2011

This is outrageous! Somebody should make a law against it!
posted by skymt at 11:24 AM on May 27, 2011

Harumph! Harumph! Harumph!
posted by TheWhiteSkull at 11:26 AM on May 27, 2011

"There is no distinctly native American criminal class, except Congress." - Mark Twain
posted by jamjam at 11:26 AM on May 27, 2011

Sorry, sbutler, I looked right past your post.
posted by jamjam at 11:29 AM on May 27, 2011

I don't believe there are any exceptions in the securities laws for members of Congress.

The Securities and Exchange Act does not apply to members of the U.S. Senate or House of Representatives.
posted by stbalbach at 11:35 AM on May 27, 2011 [2 favorites]

Where in the law does it say that insider trading laws do not apply to members of Congress?

It does not say that. The link says:

Ethics laws allow senators to hold stocks in industries they oversee. They also may push and vote for programs that could improve the bottom lines of companies in which they own stock. They are precluded, however, from taking official actions that could boost their personal wealth if they are the sole beneficiaries.

My knowledge of securities laws is somewhat limited--it was my focus in law school and I spent a semester my last year in the SEC's Enforcement Unit in DC working on litigation, and my dad was a former SEC Associate Regional Administrator and later an Associate General Counsel for a Fortune 250 company.

First, you have to understand where the insider trading rules come from. Basically the Securities Act of 1933 had anti-fraud provisions in it that applied to insider trading. These provisions were strengthened under the Securities Exchange Act of 1934. Section 10(b) of that act prohibits fraud in relation to securities trading. But it is Rule 10b-5 of the SEC which is the enforcement mechanism for these provisions.

The rule states, in pertinent part:

It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange,
(a) To employ any device, scheme, or artifice to defraud,
(b) To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or
(c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person,
in connection with the purchase or sale of any security."

So under 10b-5(b), you cannot sell a stock without disclosing a material fact that you know regarding the stock. There is no exception in Section 10(b) of the Securities Exchange Act of 1934 (the "'34 Act" as it is called for short).

What the article is about is about congressional ethics rules and laws. These allow Senators and Congresspersons to trade in stocks which their committee regulates. However, if they were to trade stocks knowing a material fact about those stocks that they did not disclose, they would likely be liable for insider trading. There are some complicated things I'm not covering, but this is a good thumbnail sketch.
posted by Ironmouth at 11:35 AM on May 27, 2011 [6 favorites]

"There is no distinctly native American criminal class, except Congress." - Mark Twain

If only Congress was the exception. I seem to remember the unimportant wife of a then obscure governor from Arkansas who once made a killing in the futures market.

American politics is WAY MORE corrupt than anyone can imagine.
posted by three blind mice at 11:37 AM on May 27, 2011 [2 favorites]

So I was working on a project last year as a research assistant (ahem, data enterer) at Harvard Business School for this guy in the Finance Dept. doing essentially the same, or a very similar study, but including info for years up to 2008, I believe. All senators' financial holdings are available for viewing at opensecrets.org (look under "Personal Finances"). Basically it was me and two other guys' jobs to move the data over to the prof's Access file for those years that were not digitized, oh man, was that mind-numbing work.

Some senators were so dang wealthy we'd spend days entering their info. This is partly because we had to enter every one of their trades in addition to their um more permanent holdings. One maddening senator, Mark Dayton (voted worst senator by Time Magazine, oh wait he's governor now, hah) seemed to spend his entire time in the senate day-trading.

Favorite senator was Russ Feingold. That guy was practically in the hole compared to those other senators--one of only two I believe to have a senate salary as his sole source of income.
posted by architactor at 11:38 AM on May 27, 2011 [2 favorites]

The Securities and Exchange Act does not apply to members of the U.S. Senate or House of Representatives

It certainly is not within the text of the act itself. There is immunity from suit for engaging in "legislative acts" written in the constitution, but I am unclear about the application of the doctrine to members of congress in situations involving insider trading.
posted by Ironmouth at 11:45 AM on May 27, 2011

Congress = outstealing the professional thieves

Fact does make good fiction.
posted by entropone at 11:47 AM on May 27, 2011

Years ago, a poster to a forum thread at Something Awful, purporting to be a staffer in the Bush White House, mentioned that everyone makes money off of stock trades in the government - that it's almost impossible not to, with the information that is constantly passing around.

The forum is now behind a paywall, but here's Wonkette's story of it.

Also, this appears to have never hit The Blue - I'm surprised
posted by mmrtnt at 11:47 AM on May 27, 2011 [3 favorites]

Think about it: when leveled at a hedge fund manager, "insider trading" means using ill-gotten information to make actual trades, i.e. buying this or selling that.

"Ill-gotten" is a poor word choice; the information merely needs to be material and non-public. There are plenty of ways to obtain such information that aren't nefarious.
posted by malocchio at 11:51 AM on May 27, 2011

Ironmouth, see Insider Trading Inside the Beltway by a UCLA law professor. "This article analyzes present law to determine whether Members of Congress, Congressional employees, and other federal government employees can be held liable for trading on the basis of material nonpublic information."
posted by stbalbach at 11:55 AM on May 27, 2011 [1 favorite]

Lobbyists would be great sources of insider information, with all the benefits of a nice bribe and few of the drawbacks, e.g., packets of money in the freezer. How convienient!
posted by Ella Fynoe at 11:56 AM on May 27, 2011

> It's kind of mind-blowing that insider trading is legal for members of congress.

Unreal, eh? Now I'm picturing an SEC agent trying to arrest a Congressman and him sneering "con-GRESS-ion-AL IMM-un-IT-y!" like the bad guy in Lethal Weapon 2.
posted by The Card Cheat at 12:05 PM on May 27, 2011

Ironmouth, see Insider Trading Inside the Beltway by a UCLA law professor. "This article analyzes present law to determine whether Members of Congress, Congressional employees, and other federal government employees can be held liable for trading on the basis of material nonpublic information."

I can't read it apparently. Have you? I would have to read it to confidently say the author is right.

However, I think he is wrong regarding federal employees. In March, 2011, FDA chemist Chen Li Liang was criminally charged with insider trading.

I certainly must disagree with the professor's analysis if he holds that federal employees may not be charged with insider trading. But I cannot review it without shelling out cash, which I'm not willing to do.

I know for a fact the 1934 act contains no such provisions.
posted by Ironmouth at 12:06 PM on May 27, 2011

Ok, I will admit that I myself was surprised that the title of this post "Insider trading laws do not apply to members of US Congress" was accurate. My knee-jerk suspicion was that there was some sort of distinction in the discussion between Congressional ethics rules and the SEC insider trading regs and that the articles were focusing on the ethics rules and ignoring the SEC prohibitions.

However, after doing a bit of legwork on my own....wow. My knee-jerk suspicion was incorrect. Senators and Representatives (and their staff) can indeed trade on the information they receive, and the SEC is without authority to do anything about those trades.

Craig Holman in a 2009 post on TheHill explained this in more detail:

The Securities and Exchange Commission (SEC) does not have the authority to hold employees of Congress or the Executive Branch liable for using non-public information gained from official proceedings for insider trading. Under current law, “insider trading” is defined as the buying or selling of securities or commodities based on non-public information in violation of confidentiality -- either to the issuing company or the source of information. Most federal officials and employees do not owe a duty of confidentiality to the federal government and thus are not liable for insider trading.

So while the House ethics rules provide, "Members may not use their congressional position for personal financial benefit" there is appears to be a significant amount of flex in the use of the (presumptively) material non-public information that a Congressman, Senator or staffer might be exposed to in the course of their duties, versus the conduct required to trigger sanctions under the House ethical rules (which is often an inherently political process).
posted by QuantumMeruit at 12:10 PM on May 27, 2011 [3 favorites]

Ironmouth, Stephen Bainbridge's article is available in full (without charge) at http://www.uiowa.edu/~lawjcl/articles/volume%2036-2/Bainbridge.pdf.
posted by QuantumMeruit at 12:12 PM on May 27, 2011

The Securities and Exchange Act does not apply to members of the U.S. Senate or House of Representatives

I know the first link in the post makes this claim, but I still don't believe it. Is this in any statute, regulation, or case law? It seems far outside the scope of any parliamentary immunity mentioned by Ironmouth.

The Bainbridge article in SSRN asserts that many situations in which Members of Congress could find themselves do not necessarily fall without the scope of traditional frameworks under which insider trading is prosecuted. But the article itself says on page 12 that cases "in which Members of Congress or other government officials qualify as classical insiders or constructive insiders present no enforcement difficulties under current law" (emphasis added). In other words, the Securities and Exchange Act does indeed apply to Congress.
posted by exogenous at 12:15 PM on May 27, 2011

Wow. I had no idea congress was so literally and completely above the law. No wonder the beltway establishment likes Wall Street so much: It's their own personal money tree.
posted by saulgoodman at 12:20 PM on May 27, 2011 [2 favorites]

I am reading the Bainbridge article now, but I think the key is that the "misappropriation theory" of insider trading is based on a breach of some duty of confidentiality or fiduciary duty. Congressmen and Senators have no such duty with respect to the information they receive, and hence, no liability under the SEC regs.

Here's what might be the money quote from the Bainbridge article:

the predominant view, as stated by former SEC enforcement official Thomas Newkirk, is that "[i]f a congressman learns that his committee is about to do something that would affect a company, he can go trade on that because he is not obligated to keep that information confidential .... He is not breaching a duty of confidentiality to anybody."
Bainbridge, Journal of Corporation Law article 295-296, p. 15-16 of the linked PDF, citing
Peter Lattman, "Bill Looks to Ban Insider Trading for Lawmakers and Their Aides, WSJ Mar. 28, 2006 at A1.

(Alas, I no long have access to my paralegal who Blue Book-ified my brief cites, and she'd probably look askance at me if I asked her to work on a Mefi comment with me, heh.)
posted by QuantumMeruit at 12:22 PM on May 27, 2011

Stop Trading on Congressional Knowledge Act (HR 1148)

STOCK Act stalls

STOCK Act re-introduced

A Democract is trying to plug the insider trading loophole but not getting anywhere. Is it any surprise the people who can close the loophole are the same ones who benefit from it.
posted by stbalbach at 12:32 PM on May 27, 2011 [2 favorites]

but I think the key is that the "misappropriation theory" of insider trading is based on a breach of some duty of confidentiality or fiduciary duty. Congressmen and Senators have no such duty with respect to the information they receive, and hence, no liability under the SEC regs.

So if I hear some guys talking at the bar I am in the clear? Very interesting.
posted by Ad hominem at 12:44 PM on May 27, 2011

ghharr: "In other news: it looks like we might be better off if Congress just gave up and went home."

They did. The Senate went out for a week-long recess this morning.
posted by schmod at 12:45 PM on May 27, 2011

I've said this before, and I'll say it again; politicians should be forced to take a vow of poverty while in office.

No lobbyist money, no campaign contributions (campaigns finance reform would have to make a lot of changes to how we run our elections...) no side investments, nothing. Just the money paid to them by the office.

If they were wealthy before they went in, they would have to put the money into an untouchable trust until they left office.

This would probably lead to fewer career politicians and more elected officials living in an economic reality more similar to the people who were voting for them. Which would, hopefully, lead to more legislation to help the vast majority of the population of the country instead of the top few percent with influence.
posted by quin at 12:46 PM on May 27, 2011 [4 favorites]

This is what happens when people are allowed to make rules to govern themselves. But, how can we change the system? I seriously doubt that Congressmen will vote favorably for this bill without loud exhortations from the public to do so. The Supreme Court can't rule on it unless someone sues, and even then it may be a moot point unless there is a specific law that states that it is OK for Congressmen to engage in such conflict of interest. Finally, I don't think the executive branch can really do anything to control how this committee is run.

I hope that someone causes a big enough stink to get Congress to do something about it. But, I don't have any faith in the masses to protest. They're much more interested in the color of Lindsay Lohan's monitoring bracelet than in the self-enrichment of public servants.
posted by reenum at 12:52 PM on May 27, 2011

I've said this before, and I'll say it again; politicians should be forced to take a vow of poverty while in office....
This would probably lead to fewer career politicians and more elected officials living in an economic reality more similar to the people who were voting for them. Which would, hopefully, lead to more legislation to help the vast majority of the population of the country instead of the top few percent with influence.

You might as well have them take a vow of chastity while you are at it, for all the good it will do.

The basic problem is that there is a natural conflict between democracy and wealth: dollars demand to vote. The founding fathers were certainly aware of this, which is why they made sure to put in as many checks and balances on democracy that they could when forming their little republic. It's now a very big and powerful republic and has exactly the kind of government you'd expect.
posted by ennui.bz at 1:09 PM on May 27, 2011

The Securities and Exchange Commission (SEC) does not have the authority to hold employees of Congress or the Executive Branch liable for using non-public information gained from official proceedings for insider trading. Under current law, “insider trading” is defined as the buying or selling of securities or commodities based on non-public information in violation of confidentiality -- either to the issuing company or the source of information. Most federal officials and employees do not owe a duty of confidentiality to the federal government and thus are not liable for insider trading.

I think that's pretty arguable. I understand the basis for that--you have to have a duty to keep the information private, in order to not trade on it. The case controlling, O'Hagan deals with misappropriation theory and fiduciary duty to the holder of the information. But the vast majority of people handling information at this level do have a duty, as they have either a confidentiality agreement or a clearance from "confidential" to "top secret." Here I stand on stronger ground because my practice is actually in government employment. I think that there is a real gray area here. Congress may be a different story here. Some members do hold a clearance, and if the material is classified, I don't know how they could get out of having liability. However, if a member did not have a clearance, they might have a claim to not have a duty and that they would be like any person who found a merger document on the street.

The subject is far more complex than a simple statement that it does not apply.

However, I would support an act that prevents such trading.
posted by Ironmouth at 2:00 PM on May 27, 2011

If my company was about to launch a product that would (I believe) greatly harm my competition, X, AFAIK it would not be insider trading to sell X short. I do not have privileged information about *X*.

Is this any different?
posted by Bovine Love at 2:57 PM on May 27, 2011

They did. The Senate went out for a week-long recess this morning.

Ha, if only. This is not technically a recess. Republicans are trying to prevent the recess appointment of Elizabeth Warren to the head of the Consumer Financial Protection Bureau.
posted by god hates math at 3:51 PM on May 27, 2011

I certainly must disagree with the professor's analysis if he holds that federal employees may not be charged with insider trading. But I cannot review it without shelling out cash, which I'm not willing to do.

? SSRN registration is free. Leastways, I've never paid anything for it.
posted by anigbrowl at 4:33 PM on May 27, 2011

So I work in government contracting, and any time we're going to award a contract above $5.5 million, we have to give congress a few days' notice before telling anyone (they likely get scores of these notifications each week). If it's particularly big (nine digits or even ten), a contract award can have a significant impact on share prices. We have all kinds of hoops to jump through to prove that neither we nor our relatives own anything that might benefit from an award we work on or even just know about. But then we turn this incredibly valuable information over to congress and their committees "[b]y the close of business the day before the date of the proposed award."

In this instance, does a duty of confidentiality attach?
posted by the christopher hundreds at 8:50 PM on May 27, 2011

This paper does the study for 2004-2008 and finds no effect, interestingly. They actually find both the Senate and the House underperforming by 2-3% relative to the market. It's a different time period, but it's all 422 members of the House and Senate and their daily stock holdings - which I scary-font because DAILY STOCK HOLDINGS? Man, I had no idea that anyone could get data on people's actual stock portfolios at the daily level. Anyway, here's the article by Andrew Eggers and Jens Hainmueller. It's entitled "Political Capital: The (Mostly) Mediocre Performance of Congressional Stock Portfolios, 2004-2008". Cut and pasted abstract here:

Abstract: We examine stock portfolios held by members of Congress between 2004 and 2008. The average investor in Congress under-performs the market by 2-3% annually, a finding that contrasts with earlier research showing uncanny timing in Congressional trades. Members also invest disproportionately in local companies and campaign contributors, and these "political" investments outperform the rest of their portfolios (local investments beat the market by 4% annually). Our findings suggest that informational 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.
posted by scunning at 9:24 PM on May 27, 2011 [2 favorites]

.
posted by secondhand pho at 10:50 PM on May 27, 2011

The Congress from 2004--2008 (the 109th congress) perhaps not coincidentally is also widely considered to be one of the least active congresses in modern history. The 109th met less frequently than any congress since WWII, and was mired down in investigations into internal corruption (like the DeLay corruption investigation and Valerie Plame scandal).

This Congress met for 242 days, the fewest since World War II and 12 days fewer than the 80th Congress.[1][2][3] As the Congress neared its conclusion, some commentators labelled this the "Do Nothing Congress," [1][4][5][6][7] a pejorative originally given to the 80th United States Congress by President Harry Truman.

In light of those facts, I think the conclusions drawn by the study scunning notes above seem dubious to me. It seems more likely this particular period in congressional history just didn't yield as many opportunities for trading on insider information as historical congresses.
posted by saulgoodman at 12:28 PM on May 29, 2011