I just recently saw the film The Experimenter which covers the work of social psychologist Stanley Milgram. His work in the early 1960’s was influenced by the behavior of Nazi war criminals who obediently followed orders, but in the process inflicted a tremendous amount of pain, suffering and death on other humans. Milgram sought to understand how humans could listen to authority even when their orders required them to perform such a heinous act.

The experiment he constructed used two subjects: a teacher and a student separated into different rooms but allowed to communicate with each other. The teacher was instructed to read a list of word pairs to the student which the student must commit to memory. The teacher then “quizzed” the student by reading off the first word of one of the pairs and providing the student with several potential answers (much like a multiple choice question). The student then responded with what he believed was the correct word to complete the pair. However, if the response was incorrect the teacher administered an electric shock to the student. For each wrong answer the voltage applied with the electric shock increased eventually reaching 450 volts.

As the voltage went higher and higher the student began complaining about the pain and actually requested the teacher to stop. The teacher, realizing that he was inflicting pain on the student, often hesitated to continue. In almost every situation he asked the proctor if he could stop the experiment. But in every instance the teacher was told by the proctor that he must continue with the experiment.

Oddly enough a majority of the teachers did as they were instructed and continued with the experiment.

There’s a catch to this setup though. The “student” was in on the experiment and wasn’t actually receiving an electric shock. All of the responses from the student–including the requests to stop the experiment–were pre-recorded and played back as the experiment progressed. The entire question and answer session was staged. The real experiment taking place was on the behavior of the teacher. Milgram was interested in whether the teachers would continue to obey the instructions of the proctor, or use their own judgement and stop the experiment.

Milgram received a lot of resistance from the academic community. His experiments were said to be deceptive, potentially imparting undue stress and anxiety on the subjects. What’s interesting is that the results have held up over time and have been repeated in a number of different settings even after Milgram’s death in 1984.

Milgram concluded that when simply going about our daily work humans have the potential to become destructive through our obedient tendencies. Even when we realize the potential damage we may cause few of us have the resources to resist authority. In other words, we follow through on orders from authoritarian figures even when we know the outcome could be bad. But why do we do this?

One possible explanation is the called the agentic state theory–a person views themselves as an instrument for carrying out the actions of another and assumes no responsibility for the outcome. The presence of authority provides a form of validation of our actions.

This is as true in the financial investment realm as it is in any other area of our lives. It’s one of the reasons I believe many people continue to watch and listen to many of the colorful personalities appearing in various financial media outlets without really doing any hard examination of their track record. We seek guidance and validation from an authority figure with regards to what actions we should take. How many times have you heard a friend or colleague say something along the lines “I just bought XYZ because so-and-so said it was going to go up!”

When it comes to authority figures in the personal investing space there are few bigger than Jim Cramer, who often touts his substantial returns as a hedge fund manager to gain credibility with his audience. Is it possible that his viewers exhibit the type of obedient behavior that Milgram observed when it comes to picking stocks? In an article for CBS Moneywatch financial advisor Larry Swedroe cited a study regarding Jim Cramer’s picks. In the day following a recommendation to buy a given stock it would experience, on average, an abnormal 1.88% increase in price. Swedroe summarizes:

The study indicates that Cramer is recommending stocks with momentum, both positive and negative. His recommendations impact the price, consistent with the pricing pressure caused by viewers’ jumping on Cramer’s recommendations. Cramer’s sell recommendations also impact prices, though the impact doesn’t quickly reverse. [1]

It would seem possible then that viewers do indeed see Cramer as an authority figure and very possibly act on his recommendations. After watching his show they jump on his picks driving a short-term gain in price. Unfortunately many of these stocks go on to perform poorly over longer periods of time.

the returns turn negative at -0.33 percent and -2.1 percent for days 2 to 5 and 2 to 30 following the recommendation [1]

While picking stocks that perform poorly may not be physically harmful it can be financially destructive. Despite his lively character and entertaining sound effects Cramer’s actual stock picking ability has come into question on a number of occasions. Just last year he penned an article titled “Jim Cramer’s Picks — Here are 49 Stocks to Buy Right Now.” David England, a retired finance professor from Carbondale, Illinois challenged Cramer as to whether these picks would be profitable

England bet Cramer a dinner at the 17th Street BBQ restaurant in Murphysboro, Ill., one of the best rib houses in the country. If Cramer’s picks were profitable, England would pay. If Cramer’s picks were unprofitable, Cramer would pay. [2]

You can probably guess what happened. Only 14 of the 49 stocks posted gains after six months. Yet despite his poor performance Cramer continues to host his show and people continue to listen.

Although we seek advice and validation from others, Miligram’s work establishes a need for us to take responsibility for our own actions. At the end of the day we’re ultimately the ones pushing the metaphorical shock button. However, when we’ve knowingly done something wrong it can be very difficult to admit our errors. In one particular scene from the film Peter Sarsgaard–who plays Milgram–is debriefing one of the teachers after completion of the experiment.

Milgram: “Why didn’t you stop at that point when he asked you to stop?”

Teacher: “Why didn’t I stop?”

Milgram: “mm-hmm”

Teacher: “Well, ’cause, ’cause he told me to continue”

Milgram: “Why did you listen to that man, and not the man in pain?”

Teacher: “Well, ’cause, ’cause I thought the experiment depended on me, and nobody told me to stop”

Milgram: “He asked you to stop.”

Teacher: “That’s true, but, but he’s the um, you know the subject shall we say.”

Milgram: “Who bore the responsibility for the fact that this man was being shocked”

Teacher: “I don’t know.” [3]

References
1. Swedroe, Larry. Jim Cramer still won’t make you rich. CBS Moneywatch. May 15, 2013. http://www.cbsnews.com/news/jim-cramer-still-wont-make-you-rich/
2. Sincere, Michael. Jim Cramer loses big in this stock-picking test. MarketWatch.com. October 22, 2015. http://www.marketwatch.com/story/jim-cramer-loses-big-in-this-stock-picking-test-2015-10-22?dist=beforebell
3. The Experimenter. dir. Michael Almereyda. Magnolia Pictures, 2015.