While the bulk of media attention on the U.S. political scene has been focused on the withdrawal of incumbent President Joe Biden from the 2024 presidential race and the contest now between former President Donald Trump and Vice President Kamala Harris, it’s overshadowed a potentially impactful change to how members of Congress trade.
On July 10, a bipartisan group of Republican and Democratic senators from Oregon, Michigan, Georgia and Missouri outlined a proposed bill called the ETHICS Act, standing for “Ending Trading and Holdings in Congressional Stocks.”
In short, the act would completely prohibit members of Congress from buying any individual stocks, and from 2027 onward, they would be required to sell all individual holdings. Instead, they would only be permitted to invest in pooled assets like mutual funds and blind trusts, the latter of which are managed by an independent trustee without any input from the beneficiary, ensuring no conflicts of interest.
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This proposal comes on the heels of numerous historical incidents where members of Congress have been accused of using their insider knowledge and connections to make a personal profit or avoid losses. Examples of the latter include selling stocks before the market crash in the fall of 2008 and the 2020 crash triggered by the COVID-19 pandemic.
However, even if the proposal doesn’t come to fruition, as the saying goes, “If you can’t beat ’em, join ’em.” The current tools to do so here are two exchange-traded funds (ETFs) specifically designed to track trades by U.S. lawmakers: the Subversive Unusual Whales Democratic ETF (ticker: NANC) and the Subversive Unusual Whales Republican ETF (KRUZ).
“Basically, you have a group of people in Congress who are there to represent us, and who have been able to generate returns in excess of the best money managers of all time,” explains Matthew Tuttle, CEO and CIO at Tuttle Capital Management. “You can speculate on how they are able to generate those returns, especially since they have full-time jobs, but retail investors are probably wise to copy them.”
Tuttle is also putting his money where his mouth is, having filed prospectuses for his firm’s own ETF, the Tuttle Capital Congressional Trading ETF (NPEL). But unlike NANC and KRUZ, NPEL will have a bipartisan focus, holding securities owned and traded by both Republican and Democratic members of Congress.
Here are the top three things you need to know as an investor before considering an investment in either NANC or KRUZ:
— How is congressional stock trading regulated?
— How do NANC and KRUZ work?
— Should you buy NANC and KRUZ?
How Is Congressional Stock Trading Regulated?
The proposed ETHICS Act merely takes existing restrictions and regulations on congressional trading a significant step further. At present, congressional trading is mainly subject to the STOCK Act, which stands for “Stop Trading on Congressional Knowledge.”
As lawmakers, members of Congress participate in various committees and hearings where they may be exposed to non-public or material information before it becomes available to retail investors.
Without regulation, a member of Congress could theoretically use this knowledge to unfairly enrich themselves or close family and friends by front-running public trades.
“The access congressional members have through legislative activities can influence stock prices, akin to insider trading,” says Sean August, CEO of the August Wealth Management Group. “A lack of legal consequences for such actions undermines market fairness.”
Here’s a hypothetical example: Suppose the House Energy and Commerce Committee tabled a proposed bill to dramatically slash taxation on domestic upstream oil and gas exploration companies.
Without the regulations of the STOCK Act, members of Congress privy to this inside information could use it unethically by buying stocks in these companies before the public is aware, potentially reaping significant profits once the information becomes public and the stock prices rise.
To curtail this, the STOCK Act requires members of Congress to file periodic transaction reports, or PTRs. The purpose here is twofold: to provide public notification of their trades and to leave a transparent and accessible record for later scrutiny.
However, there are checks and balances to ensure that administrative loads and schedules are not overwhelmed. As a result, PTRs are not filed immediately when a trade is executed. Instead, members must file a PTR within 30 days of becoming aware of a transaction or 45 days from the date the transaction occurred, whichever comes first.
Think of it as the government equivalent of a 13F filing from institutional investment managers, which must be filed within 45 days after the last day of the calendar quarter, ensuring a balance between disclosure and protecting their proprietary strategy. In the case of Congress, it’s done to relieve potential administrative burdens while still maintaining transparency and accountability.
[SEE: 9 of the Biggest Financial Fraud Cases in History]
How Do NANC and KRUZ Work?
The aforementioned PTRs are crucial to understanding how NANC and KRUZ build and maintain their portfolios. When these ETFs were initially launched in February 2023, their initial basket of stocks was selected based on PTRs filed over the preceding three years.
However, unlike Tuttle’s NPEL, it’s not a blanket capture of all PTRs filed by Congress. Instead, KRUZ focuses on PTRs filed by Republican members of Congress, while NANC is the Democratic counterpart.
Both ETFs are highly diversified, each consisting of roughly 400 to 700 stocks. They are updated periodically to reflect ongoing congressional trades as disclosed by PTRs, but only from those members who are currently in office.
There is some overlap between the two ETFs. Currently, there are 295 common holdings, representing a 22% overlap. Notable common holdings include some of the “Magnificent 7” stocks like Nvidia Corp. (NVDA), Microsoft Corp. (MSFT), Alphabet Inc. (GOOG), Apple Inc. (AAPL) and Amazon.com Inc. (AMZN).
Aside from these common holdings, the two ETFs are fairly different. KRUZ has higher weightings toward the financial and energy sectors, with names like JPMorgan Chase & Co. (JPM) and Shell PLC (SHEL). NANC is more heavily weighted toward the technology sector, with the aforementioned Magnificent 7 stocks plus others like Salesforce Inc. (CRM) and Netflix Inc. (NFLX).
Since inception, NANC has outperformed KRUZ, delivering a total return of 31.4% versus 14.8%. “NANC’s better performance can be explained by its higher weighting to hot tech sectors like software, internet, computers and semiconductors, versus KRUZ’s top sectors, which include retail and oil and gas and lower weightings to tech,” says Michael Ashley Schulman, partner and chief investment officer at Running Point Capital.
Should You Buy NANC and KRUZ?
While members of Congress have certainly outperformed the market through their trades, it’s not entirely clear if investors in either NANC or KRUZ will see similar success.
“Successful investing typically employs a long-term approach based on fundamental analysis and diversification; thus, mimicking the short-term trading activities of members of Congress may not align with your investment principles and could lead to anomalous outcomes,” Schulman notes.
It’s an uphill battle for these ETFs to generate alpha, which is defined as the excess return of an investment relative to the return of a benchmark index. The research on their odds is clear.
For example, the S&P Indices Versus Active (SPIVA) report found that over the one-year period up to Dec. 31, 2023, 69.7% of all U.S. large-cap funds (the category NANC and KRUZ fall into) underperformed the S&P 500 index. Moving to five years, the underperformance gap widens to 78.7%. By 15 years, 88% underperform.
The culprit is usually drag from high fund fees. NANC and KRUZ have expense ratios of 0.75%, which amounts to around $75 per year on a $10,000 investment. In contrast, a passively managed, broad market index ETF like the SPDR Portfolio S&P 500 ETF (SPLG) charges only 0.02% for benchmark returns.
There are also questions as to whether the delay in filing PTRs will nullify the ability of these ETFs to truly deliver returns on par with what lawmakers have been enjoying. In other words, the time lag between when a member of Congress makes a trade and when it is disclosed can potentially diminish the advantage that might come from following these trades closely.
“Furthermore, since the ETFs seem to rebalance based on the size of trades, wealthier politicians may have more of an undue influence than less wealthy politicians because more affluent politicians may naturally trade more stock and in higher valuations,” Schulman says.
August concurs with Schulman’s cautious stance, noting: “While the concept is intriguing, timing is crucial for maximizing returns and mitigating risk. I will continue to monitor ETFs like NANC and KRUZ, but until real-time disclosures are a requisite, retail investors should refrain from heavily relying on emulating congressional trades.”
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How to Track Congressional Stock Picks with These 2 ETFs originally appeared on usnews.com
Update 08/01/24: This story was previously published at an earlier date and has been updated with new information.
