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Jim Cramer vs. S&P 500: Chasing 'Mad Money'

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Among active stock pickers, few can rival how far Jim Cramer's media star shines. Even after more than a decade on the air, the ex-hedge fund manager's "Mad Money" show is still a daily fixture on CNBC. And his buy and sell recommendations are a mainstay of TheStreet.com, the financial news site he founded in 1996.

But does popularity with cable television and Internet viewers mean that investors should follow Cramer's advice on stocks?

A new study, published in the Journal of Retirement, tackles just that question. It's written by a research assistant at the Wharton School of the University of Pennsylvania, Jonathan Hartley, and a graduate student in statistics at the school, Matthew Olson.

The authors build on several past studies of similar nature. In particular, they cite two research projects as being influential to their work -- one looking at Cramer's portfolio before the so-called Great Recession (Bolster and Trahan in 2009), and another examining any possible market "impact" of his stock recommendations (Engelberg and Parsons in 2011).

Like others before them, these Wharton academics dig into performance and risk metrics associated with Cramer's Action Alerts PLUS portfolio. What sets this research apart, they suggest, is a more complete data set. Hartley and Olson track the AAP portfolio from inception through last year, a span that covers 16 years and five months.

"Cramer, unlike many other TV finance personalities, actually manages a stock portfolio that invests in many of his stock recommendations made on Mad Money," observe the study's authors.

The AAP portfolio was created in August 2001 and is sold online at TheStreet.com. Hartley and Olson note that after Cramer's "Mad Money" show began on CNBC, the fund was converted into a charitable trust in 2005 with a stated mandate to donate any resulting dividends and distributions to nonprofit organizations.

The Journal of Retirement's publisher, Pageant Media, granted Index Fund Advisors a full review of the report. It also gave us permission to use data points collected in this research piece to create a graphic depicting Cramer's portfolio since inception through 2017.

Growth of $1000 of Cramer Portfolio vs Benchmarks

Besides reviewing Cramer's portfolio performance, the study also compares such results to the S&P 500 index. For the above graphic, we've also included total returns of the IFA Index Portfolio 100, which tracks an all-equity global portfolio. (This data is presented net of IFA's highest annual investment management fee of 0.90%.)

Under such a microscope, Cramer's stock picks lose luster. The Wharton researchers found that his AAP portfolio produced an annualized 4.08% return in the 16-plus years reviewed. At the same time, the S&P 500 gained 7.07% and the IFA Index 100 returned 9.29% per year.

When applying an efficient frontier analysis -- where raw returns are judged relative to how much market risk is being injected into a portfolio -- the study's results raise even more red flags. For example, Cramer's AAP portfolio generated annualized standard deviation of 17.65 and a Sharpe ratio of 0.16.

Sharpe ratios measure returns against a relatively "risk-free" investment like a one-month U.S. Treasury bill. Meanwhile, standard deviation is a statistical metric that can be used to quantify portfolio volatility against a market index.

By contrast, our analysts estimate the IFA Index Portfolio 100 during this period produced an annualized standard deviation of 17.24 and a Sharpe Ratio of 0.47. (Lower standard deviation translates into less exposure to market volatility while greater Sharpe numbers indicate better risk-reward characteristics.)

The S&P 500 index in this timeframe had standard deviation of 14.16 and a Sharpe Ratio of 0.41. In other words, Cramer's AAP portfolio was not only providing its investors with significantly lower annualized returns, but also a bumpier ride in delivering such lagging performance.

To be fair, the study's authors point out that as a charitable trust, the AAP portfolio can suffer as it gathers dividends and distributions to make future donations. During periods when stocks are rallying, Hartley and Olson find that such a cash drag has proved problematic to keeping up with market returns. (Note: IFA's portfolio management process stresses a "fully" invested strategy as part of implementing each client's holistic financial plan.)

In studying Cramer's AAP portfolio over its entire history, Hartley and Olson uncover a trend of tilting to smaller market capitalization stocks and those considered as more growth-styled. They also find a propensity to bet on shares of companies with "low earnings quality." (It's worth noting that IFA's equity strategy favors small caps, value and funds that screen for profitability.)

"We also find that over the portfolio's entire history, Cramer's AAP portfolio exposures are primarily driven by underlevered exposure; i.e., low-beta with respect to market returns in every specification, which has heavily contributed to underperforming the S&P 500 in the post-financial crisis years," the study summarises.   

Based on this latest research on Cramer's stock picking prowess, it seems clear that investors would've gained a lot more simply buying an index fund tracking the S&P 500 -- or, even better, by passively owning a globally diversified investment such as the IFA Index Portfolio 100.