Update November 11, 2011: In recent years, I've highlighted concerns about members of Congress trading on "inside" information that would land others in trouble with the SEC. Now, former lobbyist and businessman Jack Abramoff has told CNBC in an interview (video below) what I warned folks about nearly three years ago. Abramoff spent several years recently in prison for mail fraud and conspriacy and was released in 2010.
How Did Members of Congress Invest When Briefed On Financial Problems in 2008?
It has been well discussed and reported that during the
height of the financial crisis in 2008, Congressional leaders were briefed on
what was going on behind the scenes. Furthermore, Treasury Secretary Henry
Paulson and Federal Reserve Chairman Ben Bernanke made it clear to these same
Congressional leaders how much worse it could get if certain actions were not
taken and supported. (Paulson tells the whole story, from his perspective in
his recent book, On the Brink: Inside the Race to Stop the Collapse of the
Global Financial System)
In late December of 2008, I wrote an article entitled, Do
Congressional Leaders Care How the Stock Market Performs? I investigated
whether key Congressional leaders had a meaningful stake in the success of the
American economy. While there some exceptions (like Barney Frank), most of them
did which is heartening to see.
I wondered what members of Congress were doing with their
own money during the height of the 2008 crisis as they were hearing the inside
details about the extent of the financial crisis.
Now, thanks to a Wall Street Journal analysis of recently
filed Congressional reports we know:
"Some members of Congress made risky bets with their own
money that U.S. stocks or bonds would fall during the financial crisis, a Wall
Street Journal analysis of congressional disclosures shows...According to The
Journal's analysis of congressional disclosures, investment accounts of 13
members of Congress or their spouses show bearish bets made in 2008 via
exchange-traded funds-portfolios that trade like stocks and mirror an index.
These funds were leveraged; they used derivatives and other techniques to
magnify the daily moves of the index they track."
As the chart below from the WSJ shows, many of these
leveraged bets on a stock market decline made by four members of Congress from
both parties occurred relatively early in the crisis as Congress was just
learning about the extent of the problems.
Members of Congress have lambasted Goldman Sachs and other
Wall Street firms for profiting from the housing and financial market problems
and profiting from short selling and using leverage to increase their returns.
Yet, as the WSJ correctly points, there is an apparent hypocrisy in this
Congressional criticism although I don't think that's the biggest part of the
story.
Insider Trading, Lack of Ethics, or Both?
Business executives and others may not trade on inside (non-public)
information. For example, suppose a law firm is helping Apple Computer with an anticipated
acquisition of a smaller firm. Once such
a deal is publicly announced, the stock of the smaller company getting bought
out generally rises sharply in price because the acquiring company must pay a
premium to make the deal attractive to the shareholders of the company to be
bought out.
If a lawyer at the firm doing the work for Apple invested in
the smaller company stock before the public announcement, he could make a lot
of money but he would be doing so illegally using inside information. The U.S.
Securities and Exchange Commission (SEC) would fine him and impose jail time if
such illegal trading were identified.
In my view, members of Congress trading on some of the financial
crisis information that was shared with them in private meetings in 2008 by
high ranking government are also engaging in insider trading. However, insider
trading rules don't make that clear.
Now, the WSJ analysis states, "There's no evidence the
legislators and their spouses used privileged information or failed to follow
rules on disclosure. Congressional rules permit lawmakers and their families to
invest in-or bet against-publicly held companies they oversee through committee
assignments, as well as broader markets or indices."
Well, the rules should be changed. This is a
double-standard. What's good for corporate America is also good for members of
Congress.
The WSJ points out, "While some lawmakers trade for their
own accounts, others delegate trading to a spouse, stockbroker or financial
adviser. A few legislators keep their money in blind trusts and don't know how
it's invested." Usage of a blind trust, which Presidents use to invest their
money while in office, makes a lot of sense.
The financial interests of the members of Congress should be
aligned with the rest of us. They should not be able to trade on inside
information and if they do, they should pay fines and do jail time as happens
to others who violate the SEC's insider trading rules.