What are we looking for?
U.S. stocks trading for well below book value.
Academic evidence suggests that stocks selling for considerably below book value often produce unusually large returns for investors.
Stocks in the bottom tenth of the market based upon price-to-book-value ratios have historically produced annual returns of nearly 20 per cent a year, according to research by Kenneth French, a professor of finance at Dartmouth College.
Those returns reflect cumulative results from 1926 to 2009. But low price-to-book-value stocks have fared well in every decade. Even in the 1930s, they produced annual returns of more than 10 per cent. More recently, during the period from 2000 to 2009, the bottom tenth of stocks on a price-to-book basis produced average annual returns of 16.4 per cent, according to Prof. French's research. (His numbers assume a portfolio that invests an equal amount in each stock and rebalances annually.)
A low price-to-book value typically indicates that the market has low expectations for a stock. Sometimes that opinion is justified, but if a firm does better than expected, the gains can be large.
We looked for stocks listed on the New York Stock Exchange that were trading for less than 70 per cent of their book value. To filter out smaller, more volatile firms, we restricted our search to companies with $1.5-billion (U.S.) or more in market capitalization.
What did we find?
A large number of financial firms, including giant Bank of America, Capital One Financial and Genworth Financial. Also well represented are oil refiners such as Valero Energy and Tesoro. Several of these companies are also trading for price-to-earnings multiples of 10 or less.
While it's tempting to see such stocks as bargains, investors should keep in mind that the book value of assets may have little relation to their current market value. Before buying, investors should conduct their own research. While low price-to-book stocks often represent tempting buying opportunities, some firms trade at low price-to-book values for a good reason.