Investing

Cramer's Murky Math

You should find the truth behind advertisements of winning returns before you follow the investing advice of a promoted expert.

Recent ads from TheStreet.com proclaim that its Action Alerts PLUS service, which features the stock picks of hyperactive CNBC host Jim Cramer, had trounced the market since January 1, 2002. The ads say Cramer’s “portfolio’s total average return has averaged more than DOUBLE the return of the S&P 500 [index] for the same time period.”

The ads were misleading, to put it mildly. Cramer’s service, which carries a sticker price of $475 a year, may, at best, have matched the market since its inception. It’s hard to tell, though, because TheStreet’s disclosures about Cramer’s results are murky. But they serve as a clear reminder that you must scrutinize performance claims before you start following a popular guru’s picks. In particular, watch for:

Outrageous returns. If a newsletter says it made 400% last year, be wary. Even if true, it is inconceivable that the service will repeat that kind of return.

Selective disclosure. A service might tout its great call in avoiding the 2008 debacle, but fail to mention a lousy overall record.

Math games. In a low-return era, even accurate numbers can mislead. If your stock picks returned 2% annualized over a period in which Standard & Poor’s 500-stock index gained 1% a year, you doubled the market. But don’t quit your day job.

Skewed comparisons. Make sure performance is being compared with appropriate benchmarks—and that the benchmarks are properly calculated.

It is in the last category that ads for Cramer’s serv­ice fall short. One recent ad included a chart, under the headline “Action Alert PLUS is CRUSHING the S&P 500,” showing that the picks returned about 39% from the portfolio’s inception through last March 31, compared with 15.5% for the S&P 500 over the same nine-year, three-month period. But the S&P figure did not include reinvested dividends. With them, the S&P 500 returned 38.3%.

When I first broached concerns about the ads to Gregory Barton, TheStreet’s general counsel, he said the information represented an “isolated error due to a low-level creative person.” When I pointed out that the data on the Action Alerts PLUS Web site also misrepresented the facts, Barton retracted his mea culpa and sent me an e-mail saying that TheStreet “is not aware of any inaccuracies in the information we disclose.” He added: “We believe it is commonly understood that the S&P 500 is a price-appreciation index that does not include dividends or reflect trading costs.”

He’s right about trading costs, but wrong about the dividends. The Securities and Exchange Commission, for example, requires stock-oriented mutual funds to compare their performance with an index that includes dividends. For large-company domestic stock funds, that index is almost always the S&P 500.

What makes judging Cramer’s performance so hard is that it’s not clear whether he reinvests all of his dividends or just some of them. Barton first told me that Cramer’s service never re­invested dividends. When, based on my research, I contradicted him, he backpedaled and said that Cramer’s service “sometimes” did. (Barton says Cramer has no involvement with AAP’s marketing.)

After I began making my pesky inquiries, TheStreet changed the way it reports the S&P 500’s returns on its Web site. It now shows the change in the S&P 500 plus dividends received, but not reinvested. Those figures are typically lower than the standard S&P 500 total-return numbers. The Web site’s explanation: Because the “dividends are given away to charity annually, they are received in cash, rather than reinvested into the underlying stocks.”

TheStreet, clearly, is still using the numbers it likes to use. The lesson here for investors: Scrutinize performance claims carefully. And don’t be influenced by celebrity or self-promotion.

Columnist Andrew Feinberg writes about the choices and challenges facing individual investors. He does not have a position in TheStreet.com.

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