In this episode of Enrich Your Future, Andrew and Larry Swedroe discuss Larry’s new book, Enrich Your Future: The Keys to Successful Investing. In this series, they discuss Chapter 35: Mad Money.

LEARNING: Investors are naive, and Cramer is an entertainer, not a financial advisor who adds value.

“Do not confuse information with value-added information. If you know something because it was in the newspaper, everyone else knows it as well. So it has no value.”

Larry Swedroe

In this episode of Enrich Your Future, Andrew and Larry Swedroe discuss Larry’s new book, Enrich Your Future: The Keys to Successful Investing. The book is a collection of stories that Larry has developed over 30 years as the head of financial and economic research at Buckingham Wealth Partners to help investors. You can learn more about Larry’s Worst Investment Ever story on Ep645: Beware of Idiosyncratic Risks.

Larry deeply understands the world of academic research and investing, especially risk. Today, Andrew and Larry discuss Chapter 35: Mad Money.

Chapter 35: Mad Money

In this chapter, Larry explains why investment advice from so-called market experts is often worthless.

The infamous Jim Cramer

Jim Cramer, a former hedge fund manager, has become one of the most recognizable faces in the investment world. He dispenses rapid-fire investment advice on the show “Mad Money.” Since it premiered in March 2005, it has been one of CNBC’s most-watched shows. But has his advice been as successful for the investors who follow it? Larry shares a couple of research studies that answer this question.

It pays more to invest in an S&P than in Cramer’s fund

Cramer manages a portfolio that invests in many of the stock recommendations he makes on TV. Established in August 2001 with approximately $3 million, the Action Alerts PLUS (AAP) portfolio has been the centerpiece of Cramer’s media company, TheStreet, which sells his financial advice, giving subscribers in the millions access to each trade the portfolio makes ahead of time. Jonathan Hartley and Matthew Olson, authors of the 2018 study “Jim Cramer’s Mad Money Charitable Trust Performance and Factor Attribution,” examined the AAP portfolio’s historical performance. Their study covered the period from August 1, 2001, the AAP portfolio’s inception, through December 31, 2017. The study found that the fund returned a total of 97%. During that same period, an investment in the S&P would have returned 204%.

No real stock-picking skill, just entertainment

In another study, “How Mad Is Mad Money?”, Paul Bolster, Emery Trahan, and Anand Venkateswaran examined Cramer’s buy and sell recommendations for the period from July 28, 2005, through December 31, 2008. They also constructed a portfolio of his recommendations and compared it to a market index. The researchers came to three key conclusions:

Investors were paying attention, as the stocks he recommended had abnormal returns of almost 2% on the day following his recommendations.
The returns for the recommended stocks were both positive and significant for the day of the show and the 30 days preceding the show. So, it seems he was recommending stocks with short-term momentum.
The returns were negative and significant, at -0.33% and -2.1%, for days 2 through 5 and days 2 through 30 following the recommendation. After 30 days, the results are insignificant.

There is no evidence of any stock-picking skill—Cramer’s picks are neither good nor bad. In the end, it’s just entertainment.

A third study, “Is the Market Mad? Evidence from Mad Money,” conducted in 2005, found the same result as the second study: prices rise overnight, and they are quickly corrected. This means that Cramer added negative value for the people who tried to implement his advice because they drove the price up in their buying frenzy. Then the smart money comes in, and the price reverts to basically where it was before he made the recommendation.

Do stock market experts reliably provide stock market timing guidance?

In a fourth study, CXO Advisory Group set out to determine if stock market experts, whether self-proclaimed or endorsed by others (such as in the financial media), reliably provide stock market timing guidance.

To find the answer, from 2005 through 2012, they collected and investigated 6,584 forecasts for the US stock market offered publicly by 68 experts (including Cramer), employing technical, fundamental, and sentiment indicators. Their collection included forecasts, all of which were publicly available on the internet, dating back to the end of 1998. They selected experts, both bulls and bears, based on web searches for public archives that contained enough forecasts spanning various market conditions to gauge their accuracy. Basically, they found there are no real experts.

The distribution of their accuracy looks virtually identical to a bell curve but slightly to the left, meaning, on average, they do worse. The average accuracy was 47%, which happened to be the same score as Cramer’s. So, of all the non-expert experts, Cramer was average at being non-expert.

The market is highly efficient for any guru

According to Larry, all these studies indicate that investors are naive, Cramer is an entertainer, not a financial advisor, who adds value, and that the market is highly efficient, making it very hard to beat it.

They also show that being highly intelligent (and entertaining, in Cramer’s case) is not a sufficient condition to outperform the market. The reason is simple. There are many other highly intelligent money managers whose price discovery actions work to keep the market highly efficient (meaning market prices are the best estimate we have of the right price). That makes it unlikely any active money manager will outperform on a risk-adjusted basis.

The research shows that gurus’ only value is to make weathermen look good, whether it involves predicting economic growth, interest rates, currencies, or the stock market, or even picking individual stocks.

Ignore the prognosticators

Larry concludes that while Cramer might provide entertainment, those following his recommendations are like lambs being led to slaughter by more sophisticated institutional investors. He urges investors to keep this in mind the next time they find themselves paying attention to some guru’s latest forecast. You’re best served by ignoring it, he says.

The prudent strategy, Larry adds, is to develop a well-thought-out plan and to have the discipline to adhere to it, ignoring the market noise, whether it comes from Jim Cramer or any other prognosticator.

Further reading

Michael Learmonth, “Ratings Flood for Fox, CNN,” Variety, September 27, 2005.
Jonathan Hartley and Matthew Olson, “Jim Cramer’s Mad Money Charitable Trust Performance and Factor Attribution,” The Journal of Retirement (Summer 2018).
Paul Bolster, Emery Trahan and Anand Venkateswaran, “How Mad Is Mad Money?”The Journal of Investing (Summer 2012).
Joseph Engelberg, Caroline Sasseville and Jared Williams, “Is the Market Mad? Evidence from Mad Money,” March 22, 2006.
Bill Alpert, “Shorting Cramer,” Barron’s (August 20, 2007).
Jim Cramer, “Cramer vs. Cramer,” New York, May 25, 2007.
CXO Advisory Group, “Guru Grades,” www.cxoadvisory.com/gurus.

Did you miss out on the previous chapters? Check them out:

Part I: How Markets Work: How Security Prices are Determined and Why It’s So Difficult to Outperform

Enrich Your Future 35: Market Gurus Are Just Expensive Entertainers

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