Dear Fellow Investor
The following article appeared in the 1 April 2013 issue of the Systematic Value Investor newsletter.
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Do you think that the quality of a business makes any difference in terms of returns compared to only buying undervalued companies?
It doesn't but we may have found a quality ratio that helps.
As you know our experience testing quality ratios in our book Quantitative Value Investing In Europe: What Works for Achieving Alpha has been mixed...[more]
We published a brand new paper. Quantitative Value Investing in Europe: what works for achieving alpha.In comparison with the USA there have been relatively few studies conducted on what works in investing in the European stock markets. With this paper we would like to make a contribution and examine what factors led to excess returns in the European markets over the 12-year period from 13 June 1999 to 13 June 2011.The factors we tested were:
- Earnings yield,
- Free cash flow yield,
- Piotroski F-score
- Return on invested capital (ROIC)
- Return on assets (ROA)
- Net debt
- Relative strength / price index
We not only tested the historical value of the factors, but where it made sense, we also tested the 5-year average to see if it is a better indicator to use to generate market outperformance...[more]
The problem with single-factor valuation ratios is that they move “in and out of favor” and can significantly underperform the overall market over any given 10-year period despite their long-term outperformance.
The solution ?
A valuation factor that uses a few valuation measures overcomes this problem by giving you a list of companies that are undervalued based on a few valuation measures and thus more consistent returns.
The use of a “value composite” to measure undervaluation rather using the single valuation ratio of for example price-to-sales or book to market.
O’Shaughnessy found that stocks selected based on the value composite outperformed stocks scoring highest on any single value factor 82% of the time in all 10-year rolling periods between 1964 and 2009. So, a composite that combines several different value factors delivers stronger returns and more consistency than any individual factor !
The VC1 factor or the value composite one is calculated using the following five valuation ratios:
- Price to book value
- Price to sales
- Earnings before interest, taxes, depreciation and amortization (EBITDA) to Enterprise value (EV)
- Price to free cash flow
- Price to earnings
How is VC1 calculated?
To calculate the VC1 factor we assign a percentile ranking (1 to 100) to each of the five valuation ratios for each company...[more]
Dear Fellow Investor
We honestly didn't think it would work as well.
- In 2010 the newsletter tracked the index as the portfolio was started.
- In 2011 during the sovereign debt crisis the newsletter gave up a bit of outperformance.
- In 2012 the value subscribers invested in was finally recognised and outperformance really took off.
For the year to date the newsletter has outperformed the STOXX 600 index (incl...[more]