With growth and momentum strategies flying high this year, it is easy to forget about the value portion of your portfolio. However, any well-balanced portfolio should include value stocks. While the Foolish Four and Beating the S&P (BSP) are often used for this purpose, another Workshop strategy that uses the price-to-book value ratio may provide an alternative.
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The Foolish Four is the oldest Workshop value strategy. This strategy, which is a variation of the Beating the Dow method made popular by Michael O'Higgins, combines high dividend yield and low price to find out-of-favor stocks among the Dow Jones Industrial Average companies. The Foolish Four has been back-tested 39 years with remarkable results, but recent returns have been disappointing. There are many possible reasons for that, but one is the unpopularity of value stocks.
A more recent variation of the Foolish Four is Beating the S&P 500 (BSP), which has been made popular in a weekly column by Ethan Haskel. The BSP strategy is similar to the Foolish Four but it uses non-Dow stocks from the S&P 500. This variation is appealing to those who are looking for out-of-favor large-cap companies but do not want to be limited to the 30 Dow Industrials.
For investors seeking alternatives, the Workshop community has come up with a few promising prospects that, like most other Workshop strategies, use Value Line's database. Warning: These strategies have not been analyzed as extensively as the ones that we follow officially. In fact, the Workshop community hasn't paid a lot of attention to them at all. There's something about the 100%-plus returns that some of the relative strength strategies have been showing that tend to distract us, I guess.
The most promising is the LowPB (low price-to-book value ratio) strategy. The LowPB strategy, unlike other Workshop strategies, does not use the Value Line Timeliness Rating. Instead LowPB starts with the 500 largest stocks from Value Line's 1700-stock database. Those 500 stocks are screened by the ratio of share price to book value. The top five stocks are held for a year.
Book value is essentially the liquidation value of a company -- what you could get for it if the assets were sold off immediately. The idea is that if you pay less than or close to book value, you won't be overpaying for the company's assets and eventually the value of those assets will be recognized by the market. Book value is a notoriously slippery concept, but for large-cap companies, especially those that have extensive tangible assets, it has worked well historically.
In What Works on Wall Street, James O'Shaughnessy tested a 50-stock portfolio of large-cap, low price-to-book value stocks and found that the low price-to-book value stocks beat the large-stock universe from which they were selected over long time periods, but it tended to underperform during periods when growth stocks were favored.
The five-stock Workshop version of this screen has an average CAGR of 24% for all start months using data from January 1986 through September 2000. The returns for this screen are fairly consistent, ranging from 27% for portfolios started in July, August, and November, to 21% for September portfolios. In other words, the strategy shows no seasonality.
The current LowPB strategy based on stocks selected December 31 is down approximately 8% for the year. The stocks selected, and their year-to-date returns as of Monday's close, are:
Lowes Corp. (NYSE: LTR) 44.2%
Aetna Inc. (NYSE: AET) -0.3%
J.C. Penney (NYSE: JCP) -40.0%
CNA Financial (NYSE: CNA) 0.3%
Kmart (NYSE: KM) -44.5%
Average: -8.2%
That's not very impressive, but these strategies do tend to do very well when growth strategies falter. So if you haven't already, you may want to think about adding some value to your portfolio.
Until next time, Fool On!
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