Stock Picks From Congress

Congress, for some reason, seems to be filled with wealthy individuals. The median net worth of a member of Congress is more than $1 million, compared with an average American household’s median net worth of about $55,000. The majority of members of Congress are millionaires, with 51% reporting assets of at least $1 million. As a whole, about 1% of households in the country are millionaires.

With so much wealth, most members of Congress almost certainly have access to great investment managers. But, members of the House and Senate also have an edge over average investors. They have a degree of inside information about regulations that is impossible to obtain outside the halls of the Capital building.

Just as we saw with members of the executive and judicial branches of government, legislators are required to disclose their assets and that provides us with insights into they are buying and selling. The largest holdings, as a group, are large cap stocks known for safety like General Electric, Apple, Microsoft and other household names.

By digging into the data, we can see which sectors members of Congress overweight in their portfolios. Because they have access to information about upcoming regulations, it seems reasonable to assume they would not invest in a sector likely to be regulated to death. This means we can find potential winners in the stock market by analyzing the portfolio of Congress.

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One surprise in the data is the fact that they are overweight real estate, a sector that represents a little more than 1% of the S&P 500 index. An index fund approach would have little exposure to real estate so we can be certain this is an active decision on their part to own real estate investment trusts (REITs) and other stocks in the sector. They are also overweight financials and health care stocks.

A focus on REITs is consistent with the conservative approach we see in the largest holdings of Congress. Their largest holdings offer income and stable operations. Real estate also offers income and stable operations as long as tax treatment and regulation remain relatively stable. The individuals who know what is likely to happen with taxes and regulations are the members of Congress who seem to be comfortable owning the investments.

Members of Congress also seem to be overweight stocks in the finance sector. In particular, they own more shares of securities firms, investment banks and large banks than an indexed approach would own. Again, these are sectors that can be greatly affected by regulation. The Dodd-Frank Act, for example, imposed heavy costs and regulation on the finance sector yet the stocks in the sector have largely outperformed the broad market.

One lesson we can learn from this is that Congress does have some understanding of the consequences of the large bills they pass. The complexity of Dodd-Frank is difficult to describe. The law itself is more than 2,300 pages of text and there have been more than 14,000 pages of regulations written to meet the requirements of the law. This all sounds as if it could damage the financial sector, in effect strangling the profitable business operations with regulation.

But, the members of Congress who probably know the law the best believed the law could work and they seemed to believe the regulations would still leave room for profits. We know they believed the law could work because they passed it. We know they seemed to believe the regulations would still leave room for profits because they invested heavily in the sector. So far, they seem to have been right. The chart below shows the Financial Select Sector SPDR ETF (NYSE: XLF) is up nearly 500% in this bull market, outperforming the broad market and most other sectors.

After this big gain, it’s reasonable to ask if the bull market in financials is over. Based on the holding of the legislative branch, it seems as if more gains are possible. They are still heavily invested in the sector.

It’s important to note we are not saying members of Congress vote on legislation based on their personal financial interests. That certainly does not seem to be the case. What is more likely is that they tend to understand the benefits of legislation better than others. They know what the law actually says and they understand exactly how the rules will be written. Headlines and analysis the rest of us see is biased and may highlight potential shortcomings in the laws with speculation designed to generate readership of alarmist stories. Representatives and Senators would know those stories are inaccurate and would be able to properly analyze their investments with facts, rather than biased reporting.

As always, it’s best to watch what the smart money does rather than follow headlines.

Based on what we can learn from Congressional holdings, we screened our database for potential investments in the sectors Congressional portfolios overweight. We looked for income and safety and confirmed our analysis by looking at what hedge funds were buying in the fourth quarter of last year. This is the latest available data and uses forms they filed with regulators in mid-February.

We found three potential winners.

Host Hotels & Resorts, Inc. (NYSE: HST) is REIT offering a yield of more than 5%. The firm primarily engages in the ownership and operation of hotel properties, investing mostly in the United States. It also invests in Canada, Mexico, Chile, the United Kingdom, Italy, Spain, and Poland. The firm primarily invests in luxury and upper upscale hotels and was formerly known as Host Marriott Corporation. HST has endured numerous booms and busts in real estate since the company was founded in 1927 and is expected to continue to prosper in the future. Cash flow from operations should be sufficient to fund the dividend payout for at least the next few years.

Welltower Inc. (NYSE: HCN) is an investment proving exposure to two of Congress’s favorite sectors – real estate and healthcare. HCN is independent equity real estate investment trust engaged in acquiring, planning, developing, managing, repositioning and monetizing of real estate assets. It primarily invests in the real estate markets of the United States. The firm primarily invests in senior living and health care properties. It invests across the full spectrum of health care real estate, including senior living communities, medical office buildings, inpatient and outpatient medical centers and life science facilities. Investments are based on the firm’s in-house research designed to identify market opportunities in areas with favorable demographic trends. HCN was formerly known as Health Care REIT, Inc., and also has a long history of successful adaption since it was founded in 1970. The stock offers a current yield of more than 5%.

Ventas, Inc. (NYSE: VTR) is also a REIT offering a yield of more than 5%. The firm engages in investment, management, financing, and leasing of properties in the healthcare industry. It invests in the real estate markets of the United States and Canada. The firm primarily invests in healthcare-related facilities including hospitals, skilled nursing facilities, senior housing facilities, medical office buildings, and other healthcare related facilities. Ventas has also been through several rounds of real estate cycle and changes to the tax code since its founding in 1983.

These three REITs offer income and exposure to sectors members of Congress seem to favor for their own investments. Representatives and Senators will not set policy based on their personal investments but until we see a shift in their asset allocation, it seems unlikely there will be significant legislation that harms the outlook of the real estate, financial or healthcare sectors.