Following the actions of legislators with a direct or indirect interest in firms in their constituencies could be a promising investment strategy, according to a new working paper from Harvard Business School.
Excerpts from Legislating Stock Prices
By observing the actions of legislators whose constituents are firms affected by legislation, the authors gather insights into the likely impact of government legislation on firms. Specifically, the authors demonstrate that legislation has a simple yet previously undetected impact on firm prices.
A long-short portfolio based on these legislators’ views earns abnormal returns of over 90 basis points per month following the passage of legislation.
Key findings:
- Focusing attention on the legislators who have the largest vested interests in firms affected by a given piece of legislation gives a powerful lens into the impact of that legislation on the firms in question.
- Legislators who have a direct interest in firms often vote quite differently than other, uninterested legislators on legislation that impacts the firms in question.
- The more complex the legislation, the more difficulty the market has in assessing the impact of these bills.
- The effect the authors document has been becoming stronger over time.
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