JSE Power of Value,Part-III

PREVIOUS : Power of Value on the JSE, Part-II

We had already shown in previous research (Price:Book, an all time classic) that in the crash of 2003, low price:book stocks outperformed high ones substantially over the ensuing 5 year bull run to 2008. By replicating the Brandes Institute exersise for the JSE for multiple 5 year periods, we were hoping to provide strong confirmation of trends discovered in our 2003 tests.

We only had data going back to 2000, so we could only create four sets of deciles to measure average 5 year growth, namely 2000-2005, 2001-2006, 2002-2007 and 2003-2008. We did however also decide to measure 1,2 and 3 year average growths for each of these decile sets. Decile sizes ranged from 25-27 shares depending on year. We are pleased to perform a first for the JSE with our results shown below:

We see startling confirmation that low price/book deciles substantially outperformed high price/book deciles, for 1,2,3 and 5 year growths, with significant outperformance by decile-10 which contained shares with lowest price-to-book ratios of an average of 0.37 and less. The results on the JSE are amplified enormously compared to other larger stock exchanges where similar research has been conducted. The graph below compares annualised compound growth achieved for each decile and growth period. Note how decile-10 has 1,2 and 3 year annualised growths almost identical at 66%:

Try and understand what the above graph is saying: "If you chose any starting date between the 4 year period of 2000 and 2003, and ranked the JSE by price-to-book and built a portfolio of the 25-27 lowest price-to-book shares, your portfolio would have grown on average 871% in 5 years, or 57.6% annual compound!" Put another way : "If you started in 2000, built a portfolio of the 25 lowest price:book shares and sold them 1 or 2 years later, and repeated the process you would have earned 66% average growth per annum for each of the four times you repeated the process!"

One last point : remember that the entire test period under review is 8 years (2000 - 2008) and thus includes the 2002/3 crash and the 2008 crash, which makes the above achievements even more remarkable.

NEXT : The Power of Value, Part-IV

JSE Power of Value, Part-I

In Benjamin Graham's 1934 classic "Security Analysis" David Dodd and he argued that out-of-favor stocks are mostly underpriced in the market, and that investors could capitalise on this phenomenon to reap strong returns. Conversely, prices for widely popular stocks often are propped by unrealistic expectations and thus vulnerable if these prove too enthusiastic. This philosophy formed the beginnings of what is now widely known as value investing.

The most common metrics to measure value stocks are Price/Book, Price/Earnings and Price/Cashflow. In 1994, academics Josef Lakonishok, Andrei Shleifer, and Robert Vishny published “Contrarian Investment, Extrapolation, and Risk,” a seminal entry in the value investing research field. Using data from 1968 to 1989 they grouped U.S. stocks into decile (ten) segments ranked on price-to-book,price-to-cash flow, and price-to-earnings ratios. The research created 22 sets of deciles, and tracked 5 years of decile-by-decile performance for each price-to-x criteria. They concluded that value deciles based on low price-to-x values consistantly outperformed "glamour" deciles with high price-to-x values, by wide margins, as shown below with the Price-to-book example:

Eugene Fama of the University of Chicago’s Graduate School of Business and Kenneth French from MIT’s Sloan School of Management tackled a similar question in 1998’s “Value versus Growth: The International Evidence.” The researchers found that, from 1975 to 1995, value stocks outperformed glamour stocks in 12 of 13 major national equity markets. In their opinion, this laid to rest the possibility that the value outperformance noted by Lakonishok, Shleifer and Vishny was sample-specific happenstance. “Rather than being unusual,” Fama and French concluded, “the higher average returns on value stocks in the United States are a local manifestation of a global phenomenon.”

NEXT : Power of Value on the JSE, Part-II

Price:Book - JSE Candidates

As of 29 October 2008, over 170 (or 40%) of the JSE's 426 ordinary shares are trading at less than or equal to book value. But only 90 of these are "liquid" enough for our consideration (trade more than 3 times a day on average). Of these 90 stocks, only 27 are trading at half their asset value.

Since we showed in the previous blog entry that historically the last JSE crash showed that these types of stocks significantly outperformed the rest of the market, we are now quite interested in seeing who those stocks are today. We present them below (click for bigger view)



NEXT UP : One-two combo - The PowerStocks PriceFinder