Hedge fund investors are supposed to be the smart guys—too rich and sophisticated to need the protections that Wall Street’s regulators try to offer the average investor. But that worldliness doesn’t necessarily keep them from being suckers for a shiny name.
A new study by researchers from the University at Buffalo in New York and Finland’s University of Oulu finds that investors allocate more money to hedge funds with names that have “gravitas.” They estimate that, for funds with similar performance, adding one gravitas-signifying word to a hedge fund name adds about $250,000 to annual flows to that fund.
The researchers define words with gravitas as those that exhibit knowledge in a specific area, like “monetary policy” or the name of a continent. “Essentially, if you listen to the name of the fund, it will make you think the people know what they’re doing,” says Cristian Tiu, a University at Buffalo associate professor of finance who co-authored the study with Oulu’s Juha Joenvaara.
Some of the funds with the highest “gravitas” scores were Prodigy Asia & Emerging Markets Fund, Newtonian China Real Estate Limited Fund, and Victoria Capital Dynamic European Fund.
But all those words don’t make fund managers any better at their jobs. The researchers found that hedge funds with strong names exhibit worse performance and higher volatility. They estimate that a strong name is associated with annualized excess returns almost 1% percent below the industry benchmark.
Tiu and Joenvaara were motivated to conduct the research after watching a comedy routine by British comedians John Bird and John Fortune. Performed in the aftermath of the 2008 financial crisis, the routine mocks the idea that wealthy investors are any more sophisticated than the rest of us. Bird and Fortune suggest the rich just look for funds with “very good names.”
The researchers decided to test whether these comedians were right. And, in a roundabout way, they were. Bird and Fortune thought that investors fell for words like “enhanced” and “high”, but when Tiu and Joenvaara tested whether words like those—ones associated with performance or glamour—attracted funding, they found no effect. Instead, what duped investors was when the name suggested an area of expertise. Reality was just a step away from satire.