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Seven simple value investment strategies that walloped the market over the past 15 years

Seven simple investment strategies walloped the market over the past 15 years. They each look for bargains in different ways, but they all generated serious returns.

Each strategy sticks with a single value ratio, sorts the market’s stocks by that ratio each year and then invests an equal amount of money in the 20 stocks with the lowest ratios. The positions are held for a year, and then the process is repeated to build up a long-term performance record. In each case, the strategies pick stocks from those within the S&P/TSX Composite Index, which contains roughly 250 of the largest companies in Canada.

For instance, the portfolio containing the 20 stocks with the lowest price-to-earnings ratios (P/E) in the index generated compound annual returns of 14 per cent over the 15-year period through to the end of 2017. It beat the index, which climbed at a 9-per-cent annual rate over the same period, by an average of five percentage points annually. (All of the return figures I cite include dividend reinvestment, but exclude fund fees, commissions, taxes or other trading frictions.)

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The performance of the ratio-based strategies is displayed in the accompanying table. More specifically, I formed 20-stock portfolios using low price-to-earnings, price-to-book-value (P/B), price-to-tangible-book-value (P/TB), price-to-sales (P/S), price-to-cash-flow (P/CF), price-to-free-cash-flow (P/FCF), enterprise-value-to-earnings-before-interest-and-taxes (EV/EBIT) and enterprise-value-to-earnings-before-interest-taxes-deprecation-and-amortization (EV/EBITDA) ratios.

Seven of the eight portfolios soundly beat the index over the 15-year period, and often by many percentage points annually. On the downside, the low-P/B portfolio lagged the index very slightly but, when rounded, it climbed at the index’s 9-per-cent annual rate.

15 years of Canadian value

15 years to the end of 2017,

poor relative results highlighted

 

 

PORTFOLIO

FIRST

FIVE YEARS

MIDDLE FIVE YEARS

LAST

FIVE YEARS

 

15

YEARS

S&P/TSX Composite

Low P/E

Low P/B

Low P/TB

Low P/S

Low P/CF

Low P/FCF

Low EV/EBIT

Low EV/EBITDA

18.30%

23.6

12.5

17.5

14.6

27

20.3

24.7

31.6

0.80%

9.1

15.8

17.8

8.6

18.4

15.6

5.9

3.4

8.60%

9.9

-0.6

-1.1

19.7

8.5

14.6

5.5

4.7

9.00%

14

9

11.1

14.2

17.7

16.8

11.7

12.5

THE GLOBE AND MAIL, SOURCE: NORMAN ROTHERY,

BLOOMBERG

15 years of Canadian value

15 years to the end of 2017,

poor relative results highlighted

 

 

PORTFOLIO

FIRST

FIVE YEARS

MIDDLE FIVE YEARS

LAST

FIVE YEARS

 

15

YEARS

S&P/TSX Composite

Low P/E

Low P/B

Low P/TB

Low P/S

Low P/CF

Low P/FCF

Low EV/EBIT

Low EV/EBITDA

18.30%

23.6

12.5

17.5

14.6

27

20.3

24.7

31.6

0.80%

9.1

15.8

17.8

8.6

18.4

15.6

5.9

3.4

8.60%

9.9

-0.6

-1.1

19.7

8.5

14.6

5.5

4.7

9.00%

14

9

11.1

14.2

17.7

16.8

11.7

12.5

THE GLOBE AND MAIL, SOURCE: NORMAN ROTHERY,

BLOOMBERG

15 years of Canadian value

15 years to the end of 2017, poor relative results highlighted

 

 

PORTFOLIO

FIRST

FIVE YEARS

MIDDLE FIVE YEARS

LAST

FIVE YEARS

 

15

YEARS

S&P/TSX Composite

Low P/E

Low P/B

Low P/TB

Low P/S

Low P/CF

Low P/FCF

Low EV/EBIT

Low EV/EBITDA

18.30%

23.6

12.5

17.5

14.6

27

20.3

24.7

31.6

0.80%

9.1

15.8

17.8

8.6

18.4

15.6

5.9

3.4

8.60%

9.9

-0.6

-1.1

19.7

8.5

14.6

5.5

4.7

9.00%

14

9

11.1

14.2

17.7

16.8

11.7

12.5

THE GLOBE AND MAIL, SOURCE: NORMAN ROTHERY, BLOOMBERG

Given the excellent overall results, one might think it was happy hunting for value investors over the past 15 years. But the long-term gains came with periods of feast and famine along the way, which is apparent when the return data are broken down into five-year chunks.

The first five-year period starts at the end of 2002 and stretches to the end of 2007. You’ll remember that the market was in the doldrums in 2002 after the collapse of the internet bubble. It then climbed smartly through 2007, only to trip and crash in 2008.

The bull run in the first period saw the low-P/B, low-P/TB, and low-P/S portfolios lag the market despite posting annual returns north of 12 per cent. The other value portfolios beat the market with stunning annual returns of more than 20 per cent.

The crash of 2008 wounded value stocks temporarily. For instance, the low-P/E portfolio fell 54.6 per cent from the end of 2007 to the end of 2008. By way of comparison, the market slumped 33 per cent over the same period.

Nonetheless, the value portfolios recovered with gusto. Every one hit new highs by the end of 2009 while the market took to the end of 2010 to recover (based on year-end data). The low-P/CF portfolio fared particularly well from the end of 2007 to the end of 2009 with a total return of 89 per cent over the period.

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The value portfolios enjoyed the second five-year period and beat the market handily from the end of 2007 to the end of 2012. Mind you, that wasn’t hard because the market struggled with a slim 0.8-per-cent average annual return.

The latest five-year period wasn’t as kind because the majority of the value portfolios lagged the market. However, the low-P/E, low-P/S, and low-P/FCF portfolios continued to outperform.

The strong long-term returns should encourage value investors during rough patches. If history is a reasonable guide, they’ll likely do quite well in the fullness of time.

Norman Rothery, PhD, CFA, is the founder of StingyInvestor.com.

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