Associate Professor of Management & Organizations; Associate Professor of Sociology, Weinberg College of Arts & Sciences (Courtesy)
Companies like to stand out: to have the most innovative strategy, the fastest service, the craziest burger toppings. But a company that strays too far from the customary way of doing things can scare away business.
“Despite the obvious virtues of differentiating oneself, being too different can lead people to ignore you, not understand you—even penalize you if you’re so different they can’t comprehend how you’d be doing something worthwhile,” explains Ned Smith, an associate professor of management and organizations at the Kellogg School.
How can companies signal to customers that they’re different—but not too different? Looking at the hedge-fund industry, Smith found an answer in a simple signal to customers: a company’s name.
Funds that had atypical strategies or portfolios compared with others in their market category were more likely to have what Smith calls “a deliberate name”—one that deliberately signals which category they belong to (think “Silverstone Global Macro Capital” instead of “Silverstone Capital”). What’s more, a deliberate name was an economic boon to those different-from-the-crowd funds: controlling for performance, atypical funds with deliberate names grew more quickly than those without—and were more likely to make it through the recent financial crisis.
Doing previous work on hedge funds, Smith had noticed a strange naming trend. Most funds had names that were strong-sounding but uninformative, not at all related to the fund’s strategy or offerings: Apex Partners, Blackwater Capital, Blue Ridge Advisors. (All the names mentioned here are hypothetical examples only.)
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But importantly, some funds included the name of their category explicitly: Apex Convertible Arbitrage, for instance. (Every hedge fund belongs to one of about a dozen clear categories, with which they self-identify when they start out.)
Smith wondered whether this naming choice had a purpose. “I wondered if it was strategic behavior,” he says. “Are the funds that are really differentiating themselves in respect to their behavior deliberately choosing names that make them look less different?” It might be, he thought, that when funds strayed from the crowd in terms of their investment strategy, they turned to a clear, accepted market label to give themselves more legitimacy. Invoking a category name might help atypical firms avoid that potential punishment for being too different.
“Something as simple as being able to sort of make sense of what a fund is doing based on its name might be enough to keep people invested.”
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Smith and his colleague, Heewon Chae, looked at data from more than 12,000 hedge funds over 16 years, from 1994 to 2009. They examined whether each fund was atypical, comparing each fund with the usual holding and trading behaviors of all other funds in its category: Which funds had names that mentioned their market category?
About 30 percent of the funds had deliberate names overall. And sure enough, Smith and Chae found that funds one standard deviation more atypical than their category average were 13 percent more likely to have deliberate names.
Atypical funds were more likely to include their category in their name if it was harder for investors to assess the funds’ quality in other ways, the researchers found. When these unusual funds did not have manager investment (often taken as a sign of fund quality, since, the thinking goes, managers must have confidence in a fund to put up personal capital), they were somewhat more likely to have deliberate names. And when atypical funds were domiciled offshore—meaning less information about them was readily available—they had deliberate names significantly more often.
That suggests that the firms may be thinking of their names as a valuable source of information for investors, Smith says. Especially when relatively little other information is available, using your name as a clear signal by explicitly stating the category might help atypical funds convey to investors that they are legitimate contenders.
The naming strategy seems to work. A deliberate name was positively linked to an atypical fund’s ability to draw investors. When Smith and Chae focused on funds without deliberate names, they found that atypical funds grew more slowly than typical funds—but there was little difference between typical and atypical funds with deliberate names. Even after controlling for funds’ financial performance—i.e., investment returns—a fund that was more atypical than its peers would grow significantly faster with a deliberate name than without one, their models of the data showed. By branding itself with the legitimacy of a category, it seemed, a fund could offset the potential problems of an unusual approach.
The economic impact of a deliberate name was especially stark during the recent financial crisis of 2008 and 2009. The researchers found that atypical funds were more likely than typical ones to face capital redemptions and thus liquidate, but that having a deliberate name mitigated this effect. “People were much more likely to take money out of atypical funds versus typical funds, even controlling for the funds’ performance,” Smith says.”but this wasn’t true among atypical funds with deliberate names.”
Taken together, these findings hint at how people may make decisions about where to take their business, especially when things are tough. “It could be that in times of uncertainty, people are looking for a way to make sense of their current situation—and if they can’t, they want to withdraw,” Smith suggests. “Something as simple as being able to sort of make sense of what a fund is doing based on its name might be enough to keep people invested.”
The researchers’ work suggests that even in other industries, firms that stand out might benefit from choosing a name that helps them fit in. “Companies want to be different, but if they’re too different, they risk confusing customers,” he says. “This is a step they can take to offset that difference.”
Smith, Edward (Ned), and Heewon Chae. Forthcoming. “’We Do What We Must, and Call It by the Best Names’: Can Deliberate Names Mitigate the Consequences of Organizational Nonconformity?” Strategic Management Journal.
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