When was the last time you looked at a company you never heard of? How about a company whose name sounded somewhat familiar, but you can’t recall why and otherwise you don’t know anything about? If your answer is rarely, never or not in a long while, you’ve got plenty of company.
We humans engage in familiarity bias, sometimes intentionally, but often unknowingly. Familiarity bias is the tendency to give preference to what we know over what we don’t know. Over-the-counter headache remedies provide an example. A study published last year found the average consumer choosing a national brand over a store brand 26% of the time, while pharmacists only showed a preference for the national brand 9% of the time. Consumers let misinformation influence their purchase decisions. The misinformation is likely in part due to biases related to being less familiar with the store brands.
Investments are no different. There are currently nearly 5,000 exchange-listed stocks according to our Stock Investor Pro stock screening and database program. How many of those do you hear about with any frequency? A study of media coverage found that less than 40% of all exchange stocks received even just one mention in The New York Times, LexisNexus and national newspapers during 2013. Decrease the universe to those stocks mentioned with any frequency, the actual number gets far smaller. Simply put, there are many companies you’re unfamiliar with and are otherwise not hearing about. Some of these companies likely possess traits that would interest you as an investor.
A big reason why I’m a proponent of stock screening is that a stock screen will lead you to stocks you would not have otherwise considered. A stock screen is a database filter designed to find stocks with specific quantitative traits, such as a price-earnings ratio (P/E) below 12, a yield above 3% or a 26-week relative strength rank of at least 80%. A stock screen doesn’t care about company names; it only seeks out stocks with the criteria it’s told to look for.
As investors, we would be better off if we didn’t even look at a company’s name. Rather, if we simply analyzed the numbers, the business model and—if you use technical analysis—the chart, we’d make better decisions. The reason is simple: we’d be less biased. We wouldn’t shy away from the unknown, because we’d only focus on the traits. Doing so would force us to be more objective.
Is this easy to do from a behavioral standpoint? No. I don’t even do it. But I do look at companies I’m not familiar with. In the process, I’ve found some interesting and good companies. Several have turned out to be good investments.
It does require a willingness to do research. The less familiar you are with a company, the more analysis you will have to conduct. Earnings reports, conference call transcripts, the 10-K (an annual filing required by the Securities and Exchange Commission) and even investor presentations will need to be looked at. News and analyst reports can be helpful as well, though they can be sparser for smaller companies.
If the company is smaller and receives less attention overall, you will also need a more disciplined approach to selling. There simply won’t be as much feedback. This can actually be helpful, however, because there is less noise to distract you.
That said, venturing into the unfamiliar is not for everyone. The decision to do so depends on your personality, your available time and your ability to do your own analysis. If you’re not comfortable investing in unfamiliar companies, don’t do it. But if you are willing to expand your universe of potential candidates, you could be rewarded for doing so.
- How to Read a 10-K Filing – This SEC filing can be a good source of information about a company
- Which IRA Should You Contribute to and When? – If you waited to the last minute to make a 2015 IRA contribution, you could be giving up potential gains according to T. Rowe Price.
- How Willing Are You to Invest in Unfamiliar Companies? – Tell us on the AAII.com Discussion Boards.
Federal income tax returns for 2015 will be due on Monday. (Residents of Massachusetts and Maine can file on Tuesday.) Monday is also the deadline for making IRA contributions for the 2015 tax year. Those of you of who haven’t filed yet may find our tax guide to be of help.
Approximately 100 members of the S&P 500 will report earnings, primarily the largest companies. Included in this group will be several Dow Jones industrial average components: International Business Machine (IBM) on Monday; Goldman Sachs Group (GS), Intel Corp. (INTC), Johnson & Johnson (JNJ) and UnitedHealth Group (UNH) on Tuesday; American Express Company (AXP) and The Coca-Cola Co. (KO) on Wednesday; Microsoft Corp. (MSFT), Travelers Companies (TRV), Verizon Communications (VZ) and Visa (V) on Thursday; and Caterpillar (CAT), General Electric Company (GE) and McDonald's Corp. (MCD) on Friday.
The first economic report of note will be the National Association of Home Builders’ April housing market index, released on Monday. Tuesday will feature March housing starts and building permits. March existing home sales will be released on Wednesday. Thursday will feature the April Philadelphia Federal Reserve survey. The April PMI manufacturing flash will be released on Friday.
Three Federal Reserve officials will speak on Monday at different events: New York president William Dudley, Minneapolis president Neel Kashkari and Boston president Eric Rosengren.
The Treasury Department will auction $16 billion of five-year inflation-adjusted securities (TIPS) on Thursday. You can buy these bonds directly from the Treasury Department.
- 16 Financial Ratios for Analyzing a Company’s Strengths and Weaknesses
- Strategies for Selling Stocks, Including Guidelines From Experts
- Retirement Readiness Is Being Assessed in the Wrong Manner
The percentage of individual investors describing their short-term outlook for stocks as "neutral" rose to a new high for the year. The rise occurred as optimism pulled back to an unusually low level. Pessimism rebounded, but remains below average.
Bullish sentiment, expectations that stock prices will rise over the next six months, fell 4.3 percentage points to 27.8%. The decline mostly reverses last week’s rebound and keeps optimism below its historical average of 39.0% for a 23rd consecutive week and the 56th out of the past 58 weeks.
Neutral sentiment, expectations that stock prices will stay essentially unchanged over the next six months, rose 0.9 percentage points to 47.3%. Neutral sentiment was last higher on December 31, 2015 (51.3%). This is the 11th consecutive week and the 63rd out of the past 67 weeks with a neutral sentiment reading above its historical average of 31.0%.
Bearish sentiment, expectations that stock prices will fall over the next six months, rebounded by 3.4 percentage points to 24.9%. Even with the rebound, pessimism remains below its historical average of 30.0% for a seventh consecutive week.
Optimism is back at an unusually low level, more than one standard deviation below its historical average. During 20 out of the past 22 weeks, less than one in three individual investors have expressed optimism about the short-term direction of the stock market. Bullish sentiment has only exceeded 33% twice since mid-November, on March 10 (37.4%) and March 24 (33.8%).
The drop in bullish sentiment occurred even though stock prices generally rose throughout the survey period. Giving individual investors cause for concern is the slow pace of U.S. economic growth and uncertain global economic growth, terrorism and global unrest, lackluster corporate earnings and the prevailing level of valuations. Some AAII members, however, are encouraged by sustained domestic economic growth, expected corporate earnings growth and still-low energy prices.
This week’s special question asked AAII members what they thought about corporate inversions. Nearly 31% of respondents said that Congress should change the tax code. Several in this group said reform should include lower taxes or measures to ban or discourage more inversions. Others in this group expressed their dislike for inversions, but said the transactions were a result of a broken tax code. More than 30% of respondents said that they disapprove of or don’t like inversions, with many wanting them banned completely. About 19% either approve of such transactions or don’t object to them, primarily because they think corporations should take actions that increase profits and share price. Slightly more than 5% said the tax code and other regulations penalize U.S. companies and are responsible for causing companies to move their headquarters overseas.
Here is a sampling of the responses:
- “I am strongly against this type of merger, but I understand why companies are doing this.”
- “I don’t like it, but the whole tax structure needs to be overhauled.”
- “Corporate officers should maximize profits, which means minimizing taxes.”
- “I believe it is a bad practice and should not be allowed.”
- “I’d like to see our corporate tax rate lowered, which would discourage the inversions.”
Bullish: 27.8%, down 4.3 points
Neutral: 47.3%, up 0.9 points
Bearish: 24.9%, up 3.4 points
Bullish: 39.0%
Neutral: 31.0%
Bearish: 30.0%
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