Clientele Effect

You’re only as good as the company you keep, the old saying goes. The clientele effect is a theory that tries to explain a sudden price change in a stock that is a result of investors’ reactions to a change in company policy.

Perhaps certain investors like stocks in companies that issue high-paying dividends (like Warren Buffett), don’t incur a lot of debt, or are considered to be high growth (such as the technology sector). But if these companies start borrowing a lot of money, quit offering a high-paying dividend payout ratio, or take a much more conservative approach to growth, their loyal investors may decide to bolt. And if a lot of investors are selling within a short period of time, that can greatly affect the stock price.

Stan the investing man likes high-growth companies that will hopefully provide some big capital gains. He values this much more than getting small quarterly dividends. One of his favorite companies is We’re Growing for the Moment Inc. because they reinvest all their profits back into the company. Their stock has been appreciating nicely over the years, but last week they sent out a notice saying they are going to start paying a dividend and cut back substantially on reinvesting their profits. So Stan decides to find another high growth technology company and sells his shares of We’re Growing for the Moment.

If you multiply Stan by the thousands (if not millions) of investors, that’s most likely going to have a clientele effect on their stock price.