What’s in a name? When it comes to stocks and stock selection, quite a bit, actually, according to Jesse Itzkowitz, assistant professor of marketing at Yeshiva University in New York.
Itzkowitz and his wife, Jennifer Itzkowitz, a professor at the Seton Hall University’s Stillman School of Business, are co-authors of a recent paper on name-based behavioral biases, the term given to selecting a stock based on its name. The idea first came to them when they were wandering around their neighborhood on Manhattan’s Lower East Side and came across a store named “Triple A Avocados.”
“We were joking about how, in the days of the phone book companies would try to get prominence by picking names high up in the alphabet,” Itzkowitz said. “We later learned at a departmental meeting that the same things happens with stocks; that alphabet matters and the stocks that come earlier in the alphabet trade better than those that come later.”
Individual investors tend to pick the A, B and C stock names before any others simply because they’re right there and easy to spot, Itzkowitz said. The couple’s studies showed that the average investor does not get into exhaustive searches when picking stocks because the information about stocks is too difficult to understand.
How easy it is to pronounce a stock’s name also makes it a more attractive pick for investors and the more a company advertises, the more those efforts ensure that it stays front and center in an investor’s mind, Itzkowitz said, thereby making it a more likely stock pick.
The Itzkowitzes discovered, though, that expert investors — mutual funds and other institutions — are relatively immune to alphabetical ordering and other name-based behavioral biases.
“They tend to know what things like returns, PE ratios and so on are, and they know what kind of information to look for when making stock selections,” Itzkowitz said.
As such, the playing field between novices and expert investors, or those who have better financial knowledge, is unequal, with individual investors on the losing end. Companies, too, have caught onto the name-based bias trap, Itzkowitz said, and many use it to their advantage.
“Google, for example, could use this as a way to improve its turnover. Many companies have found that they tend to trade better if their name starts with a letter that’s early on in the alphabet,” he said.
To level the playing field so that individual investors don’t fall prey to name-based biases, information about stocks should be greatly pared down and presented in a limited manner, with only the most pertinent facts and figures. Investors will be able to process the information better, Itzkowitz said, and they’re less likely to make their stock choices based on name fluency or alphabet.
“We want to help people not get bogged down and give up and make the easiest choice,” he said.
Of course, there is always a role for financial advisors to play, particularly when it comes to improving financial education and literacy levels.
The Itzkowitzes are currently researching the investing behavior of employees in company defined contribution plans, and they are finding a prevalence of the same sort of name- and alphabet-based biases.
“This is mainly due to a lack of expertise,” he said.
— Read “Analysts Are Victims of Behavioral Biases, Too” on ThinkAdvisor.