Past, Present, Future: Tense of Stock Talk Weighs on Returns

(Bloomberg) -- Delete your models. Forget the valuations. Rip up the stock charts. But please do pay attention to your verb conjugations.

That’s how one alternative data provider is trying to sell alpha to their clients.

Using natural language processing, Indexica combs through news stories about companies to see what tense is prevalent. The more often the future tense is used, the better their stock performance might be in the future. Or at least that’s the theory.

“The idea is that companies spoken about with a more forward-looking tonality may be perceived to be more innovative, which in turn brings in more investment dollars and customers,” said Indexica Chief Executive Officer Zak Selbert.

Indexica looked at three years of the S&P 500 to prove its point about what it calls the Futurity factor. The study shows that companies with high Futurity outperformed the index as a whole by 13.4 percentage points. Those with low levels of Futurity lagged by 20.5 percentage points.

Companies that displayed consistently high levels of Futurity during the study included Amazon.com Inc., Costco Wholesale Corp. and Sherwin-Williams Co. Laggards were American International Group Inc., Citizens Financial Group Inc. and Morgan Stanley.

The results may seem obvious. When a stock like Amazon is consistently outperforming, conversations veer toward how high it will climb or what the company has in the works to justify a generous current valuation. A stock’s zeitgeist will tend to rationalize what it has done and why it will continue to do so. In that sense, Indexica’s Futurity measure might just be another way to describe momentum investing, which basically involves sticking with winners and dumping losers.

And yet, as commonsense as it may seem, earlier research shows talking about the future isn’t always a buy sign. The distinction is who is doing the talking. Companies that employ future tense verb conjugations in annual reports tend not to fare as well as those that don’t, according to a 2016 study by Raša Karapandža of the European Business School.

“Talk about a company’s future plans isn’t cheap,” said Karapandža. “If they reveal more information in their annual report about their strategy, they can afford to have lower returns because they are inherently less risky to investors.”

Most companies remain reluctant to make forward-looking statements, despite safe harbor designations provided by the Securities and Exchange Commission. Predicting a future new line of business risks stoking expectations that may not be met.

That’s Selbert’s pitch to his customers. In the absence of company disclosures, investors need to look to the outside world for advice.

“If the story about capitalism is that it works because we believe companies will perform better in the future than in the past, then we need to quantify how the discourse around companies is trending,” he said.

To contact the reporter on this story: Brandon Kochkodin in New York at bkochkodin@bloomberg.net

To contact the editors responsible for this story: Joe Weisenthal at jweisenthal@bloomberg.net, Larry Reibstein

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