As I discussed in The Small Cap Paradox: A problem with LSV's Contrarian Investment, Extrapolation, and Risk in practice, the low price - to -
book decile is very small.
As I discussed in The Small Cap Paradox: A problem with LSV's Contrarian Investment, Extrapolation, and Risk in prac..., the low price - to -
book decile is very small.
Not exact matches
So if we look at a range of market valuation measures, whether it's Shiller CAPE, whether its price - to -
book, whether it's price - to - trailing earnings, price - to - peak earnings, when we look at these measures, they look like they're in the, what we would call, the 10th
decile, meaning generally, valuations are cheaper 90 % of the time.
For individual stocks, they each month sort stocks into tenths (
deciles) on
book - to - market ratio and form a portfolio that is long (short) the value - weighted
decile with the highest (lowest) ratios.
The problem with the approach is that the lowest price - to -
book value
deciles — that is, the cheapest and therefore best performed
deciles — are uninvestable.
They are perhaps best known for the Contrarian Investment, Extrapolation, and Risk paper, which, among other things, analyzed low price - to -
book value stocks in
deciles (an approach possibly suggested by Roger Ibbotson's study
Decile Portfolios of the New York Stock Exchange, 1967 — 1984).
They found that low price - to -
book value stocks out perform, and in rank order (the cheapest
decile outperforms the next cheapest
decile and so on).
In the
book, O'Shaughnessy suggests another problem with the real - world application of LSV's
decile approach:
One such monthly time series represents the returns of ten portfolios formed by sorting the universe by each stock's ratio of
book equity to market value and splitting them evenly into
deciles.
As we discussed yesterday in Testing the performance of price - to -
book value, various studies, including Roger Ibbotson's
Decile Portfolios of the New York Stock Exchange, 1967 — 1984 (1986), Werner F.M. DeBondt and Richard H. Thaler's Further Evidence on Investor Overreaction and Stock Market Seasonality (1987), Josef Lakonishok, Andrei Shleifer, and Robert Vishny Contrarian Investment, Extrapolation and Risk (1994) and The Brandes Institute's Value vs Glamour: A Global Phenomenon (2008) all conclude that lower price - to -
book value stocks tend to outperform higher price - to -
book value stocks, and at lower risk.
One wrinkle in that theory is that the low price - to -
book value studies only examine the cheapest quintile and
decile, where I have taken the cheapest 30 stocks on the Google Finance screener, which is the cheapest
decile of the cheapest
decile.
When the market is getting very toppy, you can still find the cheapest
decile, quintile, quartile, or whatever on a price - to -
book basis to buy.
As the various studies we have discussed recently demonstrate — Roger Ibbotson's
Decile Portfolios of the New York Stock Exchange, 1967 — 1984 (1986), Werner F.M. DeBondt and Richard H. Thaler's Further Evidence on Investor Overreaction and Stock Market Seasonality (1987), Josef Lakonishok, Andrei Shleifer, and Robert Vishny Contrarian Investment, Extrapolation and Risk (1994) and The Brandes Institute's Value vs Glamour: A Global Phenomenon (2008)-- low price - to -
book value stocks outperform higher priced stocks and the market in general.
In this instance, Professor Oppenheimer's study speaks to the return on the Near Graham Net Net Portfolio, as Roger Ibbotson's
Decile Portfolios of the New York Stock Exchange, 1967 — 1984 (1986), Werner F.M. DeBondt and Richard H. Thaler's Further Evidence on Investor Overreaction and Stock Market Seasonality (1987), Josef Lakonishok, Andrei Shleifer, and Robert Vishny's Contrarian Investment, Extrapolation and Risk (1994) as updated by The Brandes Institute's Value vs Glamour: A Global Phenomenon (2008) speak to the return on the Ultra-low Price - to -
book Portfolio.
If I had to be anywhere in equities, however, I'd start in the cheapest
decile of the market on a price - to -
book basis and work my way through to those with the highest proportion of current assets.
First, all stocks traded on the NYSE and AMEX as of April 30, 1968 were sorted into
deciles based on their price - to -
book ratios on that date.
However, the chart below shows the top and bottom
deciles using the combined Little
Book strategy again for the US.
Book value has received plenty of attention from researchers in academia and industry, starting with Roger Ibbotson's
Decile Portfolios of the New York Stock Exchange, 1967 — 1984 (1986) and Werner F.M. DeBondt and Richard H. Thaler's Further Evidence on Investor Overreaction and Stock Market Seasonality (1987).
The yellow dotted line shows the average returns to the ten
decile portfolios of stocks ranked by price - to -
book value from 1968 to 2012.
Smith, who volunteered for Benjamin Graham at UCLA, concentrates on the bottom
decile of price to tangible
book stocks and has compounded at 15.3 % over 30 years:
For example, the cheap price - to -
book value (PBV)
decile outperforms the next and so on:
Exhibit 3 compares average annualized performance for U.S. stocks from the 1968 to 2008 period for
deciles based on price - to -
book.
Drawdowns Relative to the Market for Value
Decile (Price - to -
Book Value), and 3 Shiller PE Timed Strategies
To test this relationship, all stocks listed on the NYSE were ranked on December 31 of each year, according to stock price as a percentage of
book value, and sorted into
deciles.
The value
decile contained the 283 stocks with the lowest ratio of price to earnings, cashflow,
book value or dividends.
Table 4 - 9 shows the largest stock by market capitalization for each of the
deciles ranked by price - to -
book value.
The «market» here is an equal weight, and total return average of all
deciles, and includes stocks with negative earnings, cashflow, or
book value.
The first — «Sell at 1SD, Buy at -1 SD» — buys the price - to -
book value
decile only if the Shiller PE is one standard deviation below its mean, sells into cash if the Shiller PE is more than one standard deviation above its mean, and holds cash until the market falls back below one standard deviation below the mean.
I guess to tie it all together, based on this and some of your prior posts, what is the market cap range of the best performing
deciles on a price /
book basis?
The first option is to simply always remain fully invested in the value
decile (measured by price - to -
book value).
In «
Decile Portfolios of the New York Stock Exchange, 1967 — 1984,» Working Paper, Yale School of Management, 1986, Ibbotson studied the relationship between stock price as a proportion of
book value and investment returns.
While I think LSV's selection of price - to - earnings and price - to -
book as indicia of value in the aggregate probably means that value had some influence on the results, I don't think they can definitively say that the cheapest stocks were in the «value»
decile and the most expensive stocks were in the «glamour»
decile.
But this time, ONLY look at the value
decile (using Price to
Book or Price to Earnings — something standard to the literature).
Those two papers found that value stocks (defined as the lowest
decile of stocks by price - to -
book) outperformed glamour stocks (and by a wide margin).