Determining which factors are driving share price moves is as important as it is difficult. No-one can predict the future, but knowing what’s currently high on investors’ radar can lead to better investment outcomes. The rise of the individual investor as a market force may be responsible for an increasingly important share price support – the household name effect.
There are a number of theories that support the idea that company share prices benefit from what marketers call “brand recognition”. It’s acknowledged that there are many stock characteristics that influence investors, and ultimately share prices. Hard evidence is scant. However there is no denying the intuitive appeal of the idea.
Newer self-directed investors and traders are often advised to “stick with what you know”. Investors as famous as Warren Buffet have declared they’ll only invest in businesses they understand. It’s hardly surprising that investors are drawn to companies that produce goods and services that they know and use.
One of the lessons of the Global Financial Crisis is that even “experts” can be horribly wrong. This led to a variety of investor responses. Some left the share market altogether. According to the ASX’s Australian Share Ownership Study, 44% of Australians directly owned shares in 2004. By 2014 this proportion fell to 33%. That’s around 6.5 million Australians.
However at the same time the funds invested in Self-Managed Super Funds ballooned. The total of funds under management in SMSFs is now more than $700 billion. That’s more than one third of the value of all listed stocks on Australian exchanges, meaning individual investors are an important part of the investment landscape. Factors that drive individual investor behaviour are therefore important to market performance.
One possible example of this effect is the different trading valuations for Domino’s Pizza and Collins Foods. Domino’s advertising and its nationwide operations put it in the household name category. Over the last four years the Price to Earnings ratio has fluctuated between 31 and 85. It currently stands just below 40 times.
Collins Food is the owner and operator of KFC in Australia, as well as Sizzler restaurants. While they are different businesses in many ways, they are both fast food suppliers with extensive Australian operations and some international exposures. Yet over the last four years the PE multiple for Collins Food ranged between 12 and 26 times.
Woolworths is another case in point. The grocery business at the heart of Woolworth’s operations is boring in investment terms. In uncertain times steady earnings and a modest growth profile may be attractive. However in an investment world where growth is accelerating these characteristics are far less attractive. Yet Woolworths continues to command a PE premium. It’s currently trading on around 23 times earnings, significantly above the average across the top 200 companies of 16 times.
The impact of household names is also evident when Australian investors look overseas. A list of CMC’s trading clients&rsquo most popular 30 stocks yields 6 international names – excluding A2 Milk. They are Facebook, Apple, Amazon, Tesla, Netflix and Ali Baba. Sound familiar?
How can investors take advantage of this phenomenon? There are a number of implications. Many “value” investors are struggling to find suitable shares. Ignoring well-known brands may narrow the search. Where there is a premium for a household name investors may adjust their view on what constitutes “expensive” in investment terms.
The overall impact may be most dramatic when there is a change of outlook for the economy, and the share market. While economic settings appear benign to positive it is more likely that household name stocks will command a premium over their less well known peers. However, if the outlook sours the effect could swing to negative, as panicking investors sell indiscriminately. Investors only sell what they own, so less well exposed stocks could outperform in the event of a downturn.