Sell GGG - They recalled their baby toys!

On this blog, just as a matter of principle, I have tried to avoid simply republishing previously published news bites or other bloggers’ postings. But this one was just too outrageous to pass up. It was brought to my attention on the Google Finance message boards by Dr. Bob Kiser. Dr. Kiser pointed out that Google Finance listed news of the Graco Children’s Products Inc. recall of its Soft Block Tower Toys alongside the Graco Inc. stock quote. The funny thing is that these two companies, although they share a similar name, have absolutely nothing else to do with one another.

Graco Inc. (GGG), the fluid-handling systems manufacturer, is a company I have been following for several months now. This no-debt company has averaged an ROE of over 40% for ten years and spends little in the way of capital expenditures. I wonder if periodic bad news from the other Graco sometimes has an adverse impact on the stock of this Graco when rash investors confuse the two…

Such a postulation is not as ridiculous as it may seem at first glance. Last year, when Jim Cramer mania was at its peek and a mere Mad Money endorsement was all it took to move a stock by five or ten percent, several stocks that were confused with the actual recommendations traded in concert.

This phenomenon is nothing new and has generally been attributed to the presence of ignorant “noise traders,” those that don’t do their homework before making a trade. The Harvard Business School dissertation of Michael S. Rashes, later excerpted in the Journal of Finance, documents the similar trading patterns of two securities with similar ticker symbols that are otherwise unrelated. In the late 1990s, MCI Communications traded on the Nasdaq under the ticker symbol MCIC. The ticker symbol MCI was an NYSE ticker reserved for a closed-end fund called Massmutual Corporate Investors. Clearly, these two securities have no relationship beyond their ticker symbols, yet Rashes shows an extraordinary amount of comovement between them.

During the period of the study, MCI Communications was in frequent merger negotiations with a number of different firms. (Of course, eventually it was acquired by Worldcom.) This gives Rashes many big news days to examine the corresponding behavior of Massmutual. He finds that on days of good news for MCI Communications, volume for Massmutual increased as well. Further, through regression analysis, he finds that the returns for Massmutual are actually a statistically significant explanation for the contemporaneous returns of MCI Communications, even though the returns of other telecom companies, such as AT&T, are not. Rashes estimates that as many as 1% of the trades in MCI during 1996 and 1997 were erroneous MCIC trades.

Graco Children’s products is not publicly traded – it is owned by Rubbermaid (NWL) – so ticker symbol confusion couldn’t cause the type of blatant mispricing mentioned above. But it nonetheless would seem feasible that there are individuals, even perhaps overwhelmed portfolio managers, reckless enough to sell GGG shares short upon hearing about the Soft Block Tower Toys recall. If this is the case, maybe we should watch Graco Children’s as part of our monitoring of Graco Inc.

FD: I own shares of GGG, but have no position in any other security mentioned in this post.