Investing in a good name

Psychologists from Princeton University have shown that initial public offerings (IPOs) for companies with easily pronounced names are doing better than for the ones with awkward names. Don't you think this can be an inspiration for some Web 2.0 companies which tend to use weird names?

Psychologists from Princeton University have shown that initial public offerings (IPOs) for companies with easily pronounced names are doing better than for the ones with awkward names. The same effect affects stock ticker symbols. For example, a stock with the symbol BAL should outperform one with the symbol BDL. This phenomenon is strongest on the days following the IPO but tends to diminish after several months. Anyway, investing $1,000 in ten companies with easily pronounced names can bring you $333 more after a year than the same investment in ten weirdly named ones. Don't you think this can be an inspiration for some Web 2.0 companies which tend to use weird names? Read more...

Here is the introduction of the Princeton University news release.

A new study of initial public offerings (IPOs) on two major American stock exchanges shows that people are more likely to purchase newly offered stocks that have easily pronounced names than those that do not, according to Princeton's Adam Alter and Danny Oppenheimer. The effect extends to the ease with which the stock's ticker code, generally a few letters long, can be pronounced -- indicating that, all else being equal, a stock with the symbol BAL should outperform one with the symbol BDL in the first few days of trading.

According to Nature in "Simple sounds make for sound investments," it's all about fluency.

When people try to understand complicated information, they tend to focus on the simplest parts. This means that people naturally favour things that are more fluent, and easier to think about.
To test whether this behaviour influences what people buy on the stock market, the duo asked a group of ten undergraduates to rate the fluency of 60 fictional stock names, according to how difficult they were to pronounce. Companies such as 'Hillard' or 'Barning' were judged fluent, whereas 'Xagibdan' and 'Creaumy' were classed as complex names.

In "What's in the Name? Researchers Suggest It's Money," the New York Times gives another example about imaginary names (free registration, permanent link).

[The] researchers created a list of fictional stocks and then had a group of students rate them according to ease of pronunciation. "Ulymnius," for example, was rated complex, while "Mayville" was not.

But several days after an IPO, the effect tends to disappear, as reports the New York Times.

The researchers then tested name complexity and the performance of real initial public offerings listed on the New York and American Stock Exchanges. A $1,000 investment in a group of stocks with easy names yielded $112 more in profit than the same investment in a group with difficult names. But the effect began to disappear over time.

The Princeton University news release confirms this statement.

"We looked at intervals of a day, a week, six months and a year after IPO," Alter said. "The effect was strongest shortly after IPO. For example, if you started with $1,000 and invested it in companies with the 10 most fluent names, you would earn $333 more than you would have had you invested in the 10 with the least fluent."

Does this mean that you have to pick a stock depending on its name? Here is the answer from the researchers.

What the findings did offer, Oppenheimer said, was another piece of evidence that markets -- and therefore the large groups of people who invest in them -- are not the rationally-functioning entities that some experts believe them to be.
"This is not the only factor that plays a role in stock performance," he said. "A number of other economic and psychological factors undoubtedly play a role as well. This study does not argue that psychology is more important than economics, but rather that one cannot ignore psychological variables when constructing models of stock performance."

And Nature adds that the two researchers are not ready to put their money in IPOs.

Are Alter and Oppenheimer ready to bet the farm on snappy-sounding stocks? "No," says Oppenheimer. "I don't have the money to invest."

For more information, this research work will be published by the Proceedings of the National Academy of Sciences under the title "Predicting Short-Term Stock Fluctuations by Using Processing Fluency." The article is not yet online, but you soon should be able to read it through this link.

Sources: Princeton University news release, via EurekAlert!, May 29, 2006; Mark Peplow, Nature, May 30, 2006; Nicholas Bakalar, The New York Times, May 30, 2006; and various web sites

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