Is Congress Ruining Stock Prices?

According to one mutual fund manager, the answer is a resounding “yes.”

This July 28, 2011, file photo shows the Capitol Dome on Capitol Hill in Washington.
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Congress is by no means America's most popular institution. Earlier this year, its approval rating dropped to a dismal 10 percent. It goes without saying that one of the main drivers of the mounting dissatisfaction is the feeling that legislators are putting partisan politics above results.

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Over time, the notion of the "Do-Nothing Congress" has become a popular one. But is it also an investing strategy? Eric Singer believes it is.

Singer, a long-time student of the relationship between Congress and the stock market and author of Trade the Congressional Effect: How to Profit From Congress's Impact on the Stock Market, also manages the Congressional Effect mutual fund, which launched in 2008. The fund has a unique strategy: When Congress is in session, the fund pulls completely (or very close to completely) out of the stock market. Meanwhile, when Congress is out of session, the fund invests primarily in products that provide exposure to the S&P 500.

The investment thesis is that congressmen, just by showing up to work, have a souring effect on the market. In a recent interview with Business Insider, Singer justified the strategy as follows:

"Over the last 47 years, on the 7,900 days Congress is in session the market goes up in price less than 1% annually and on the 4,100 days that they're on vacation, it goes up in price 16% annually. And what's even a little bit more startling is that those numbers go all the way back to 1897, day by day, the same way. Essentially all the gains in the market are attributable to days when Congress is on vacation."

Singer has clearly done his homework. But how has his strategy worked out for investors in his fund? In a word: disastrously. In 2010, its best full year on the books, it beat the S&P 500 by 0.14 percentage points. In other years, though, the fund has produced returns that have been nothing short of disappointing.

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In 2009, the fund missed out on the market's rally because it spent so much time on the sidelines. In fact, it managed to end the year in the red. Its negative return of 4.41 percent trailed the S&P 500 by nearly 31 percentage points. Last year, it finished more than 7 percentage points behind the S&P 500. This year, through the end of September, it was more than 14 percentage points behind the S&P 500. (All returns for the fund are as calculated by Morningstar after management and administrative fees are taken out.)

Despite the fund's abysmal performance, does Singer have a point? It is, of course, possible that the past few years have just been an anomaly. As the fund's website is quick to point out: "The Advisor believes that the [Congressional Effect prevents] the market from performing as well on days when Congress is in session [as it does when] when Congress is recessed. Of course this effect is best observed over a long period of time and therefore this investment is best suited for long-term investors."

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At the end of the day, though, Singer's approach suffers from one glaringly obvious problem: Try as he might to attribute his historical market numbers to the impact of Congress, he can't establish causation. In his book, he acknowledges this issue but suggests that it doesn't particularly matter. "The very first thing financial advisers are taught is 'correlation is not causation.' While this is true for relatively small samples and modest correlations, there is a point at which overwhelming correlation demonstrates causation," he writes. "I believe the Congressional Effect has such overwhelming correlation that it demonstrates causation."

That's an attention-grabbing belief, to be sure. But as an investing strategy, it has—at least in the short term—left much to be desired.