10 Value Stocks Showing Signs Of Growth

1st Nov '18 by Jack Brumby

17 comments 7702 reads

Value investors know that periods of underperformance are par for the course. Even Warren Buffett’s mentor Benjamin Graham recommended buying ‘baskets’ of up to 30 deep value stocks to diversify some of the risk.

High street fashion retailer French Connection is a case in point. Before the recent news that it is being put up for sale, investors who had been expecting that outcome had to endure years of sideways and downwards price moves, only for the shares to spike up and re-rate in a matter of days. With this kind of stock, it is easy to be right - but far too early.

The retailer's shares have doubled since March and yet French Connection still only trades on 0.42 times sales. Some value investors will have found it hard to stick to their guns but, if a sale completes, they will forget all those sleepless nights and crises of confidence.

How to stop buying early

What if we could forgo all that fretting in exchange for a bit of the upside at the beginning? This is the aim of an approach called Tiny Titans, which blends value with relative strength momentum. This small/micro-cap strategy was set out by the US fund manager James O'Shaughnessy in his 1996 433-page tome, What Works on Wall Street.

The screen is simple - there are only two criteria: price-to-sales and relative strength momentum. O’Shaughnessy’s own studies find that, from 1951 to 2003, low price-to-sales (PSR) companies ‘beat the market more than any other value ratio and do so more consistently’. If an investor had put $10,000 into the 50 lowest price-to-sales ranked companies in the US All Stocks universe in December 31st of 1951 and rebalanced annually would be sitting on an astonishing $22,012,919 as of December 31st of 2003. Unfortunately, said investor is neither real nor a member of my family. O’Shaughnessy further posits that the PSR ‘is the best guide for future performance’.

Performing the same exercise for the 50 companies with the highest price appreciation in the preceding year, rebalanced annually, O’Shaugnessy finds that an investor who put in $10,000 in 1951 would have taken out $4,814,164 at the end of 2003.

The screen is actually top of the pile in terms of five-year returns, although it has given a chunk back amid the recent tricky market conditions.

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AnonymousUser252054

30th Oct '18

I don't know about the others but Augean (LON:AUG) is a two-way bet. It's finances have been turned around in the last year after loss-making disposals by Chris Mills but it is in a protracted stand off with HMRC. If the company can argue their way out of huge tax demands they are a total bargain, but if they lose the share price will most likely be decimated.

Jack Brumby

Thanks for that, Shine66. I'm unfamiliar with the Augean situation but it's a useful reminder of why Benjamin Graham recommended broad portfolios of deep value stocks (30-40 holdings) in order to diversify that type of company-specific risk.

Although I include just the top 10 here, the Tiny Titans screen is tracked as a quarterly rebalanced portfolio of 25 stocks, which is an important point to take into account.

Investing in just one of these stocks and holding it for a long period of time will probably yield quite different results!

peterg

Do you realty want to let shares with negative PSRs into your screen? Not sure how a share like Tern with negative revenues is a "value" share?

Nick Ray

I wouldn't call "Tiny Titans" a value strategy.

To me it looks like a pure momentum play (top 25 by "RS 1y") and the condition "P/S < 1" is simply a brake to avoid seriously over-paying. With such small companies many do not have a P/E so it falls back on P/S as the next best thing.

As 'peterg' points out, Tern (LON:TERN) has managed to confound even that basic check by somehow having negative revenues!

I had missed that peterg, Tern shouldn't be in the screen. I'll edit the table to include another qualifying company in its stead.

Breyten

As I was suggested I read up on the original strategy I got myself a copy of What Works on Wall Street. No tiny titans strategy to be found. I quote Chapter 9:

“In the original edition of What Works on Wall Street, I found the single-best value was a stock’s price-to-sales ratio (PSR). With our new compositing methodology, we see that this is no longer the case. While PSR continues to perform well (…), EBITDA-to-enterprise value has displaced it as the best-performing single factor when you include all monthly data in the analysis.”

What Works on Wall Street, fourth edition, James P. O’Shaugnessy, Chapter 9, Mc Graw Hill, 2012

What is the position of stockopedia on this, as the author no longer stands behind the P/S ratio as the best factor to indicate value.
------------------------------------------
There were some good points made in comments on a separate post that I recommend anyone who wants to implement this strategy to read before. They certainly helped me navigate this strategy which is a lot more complex in practice than stockopedia makes out.

https://www.stockopedia.com/content/keep-the-winners-sell-the-losers-vs-checklist-investing-379249/?comment=2#2
https://www.stockopedia.com/content/keep-the-winners-sell-the-losers-vs-checklist-investing-379249/?comment=5#5
https://www.stockopedia.com/content/keep-the-winners-sell-the-losers-vs-checklist-investing-379249/?comment=6#6

It is classified as a momentum strategy, you're right Nick.

I do also think it has a bias towards value, though. I know these ratios can mean different things depending on sectors and business models (eg. a low P/S for a high revenue, low margin business might not show value), but a P/S < 1 is often cheap rather than just not seriously expensive, IMO.

As for the P/E, I believe O'Shaughnessy genuinely thought P/S was the superior value metric, rather than just using it as a way to include loss-making but cheap stocks. He starts his P/S chapter by saying: 'The final individual value ratio I’ll review is also the best'.

I'm happy to stand corrected, however!

This bubble chart is interesting & shows the current set of stocks clusters towards the 'Cheap' end of the graph (as well as the good momentum):

https://www.stockopedia.com/screens/tiny-titans-91/?display=bubble&x=ratios._ValueScore_zz&y=ratios._MomentumScore_zz#display

Thanks for the links breyten, I'm reading some of them now.

O'Shaugnessy has evolved his views and did come around to the idea that EV/EBITDA was a better measure of value than price/sales. I think that after that he went on to use a blended composite of value measures that is actually quite similar to our own StockRanks.

O'Shaugnessy has changed the metrics he used to measure value at different points in his career, but I don't think that makes Stockopedia's take on the Tiny Titans screen any less valid.

I encourage you to make your own screen though if you'd like to set it up differently!

but a P/S < 1 is often cheap rather than just not seriously expensive, IMO.

As for the P/E, I believe O'Shaughnessy genuinely thought P/S was the superior value metric, rather than just using it as a way to include loss-making but cheap stocks. He starts his P/S chapter by saying: 'The final individual value ratio I’ll review is also the best'.

Yes - you are right. It is actually quite a curious screen. It is looking for stocks which are cheap but have very strong momentum. That should be a contradiction but it does find some stocks - which is interesting in its own right.

I increased the mkt cap limit to £1500M and I see a few "old friends" like Dart (LON:DTG) FairFX (LON:FFX) Computacenter (LON:CCC) Robert Walters (LON:RWA) popping up. Since this screen works so well I might look to see if it is useful for mkt caps > £100M too.

jonesj

Incidentally, if anyone does need to move money abroad, Transferwise is way cheaper than the prices quoted by FairFX.
In fact, from a quick scan, none of the FairFX services look competitive enough for me to consider being a customer.

So are the forex customers really so price insensitive that FairFX can continue to keep up the very good growth rates ?

31st Oct '18

You need to change the filter to 0>x<1, not just x<1. Same applies to a lot of metrics! Or you can get a lot of nonsense from negative values in quite a few cases

That's interesting, I've been reading CCC reports recently and I used to hold DTG (I like to follow companies from Yorkshire!)

I was introduced to FFX at an investor show, so that's also on my radar. The growth looks impressive and the market looks huge but I've never used the product. It's one of those stocks I keep meaning to take a look at.

I'd be interested to hear your results if you ever make a post about this stuff.

1st Nov '18

I'd be interested to hear your results if you ever make a post about this stuff.

I had a quick look, but the result from my own data basically said "sort by RS 1y" but choose P/S in a range between the 25% and 75% percentiles, rather than choose a P/S below a certain figure. (And for the avoidance of doubt a P/S of 1 is roughly at the 75% percentile (given that Stocko sorts P/S high to low) so P/S < 1 is similar to a rule which said Value Rank > 75.)

I probably should have anticipated that because that is the "message" I've been getting for pretty much all valuation metrics with the various datasets and methods I use: "keep your valuation in a channel around the median value."

So I'm not making any recommendation to anyone either way, but for me I think it's a dead end.

pka

2nd Nov '18

Hi Jack,

Thanks for the interesting post. You wrote:

"The Tiny Titans method ... boasts a five-year return of 126.5%"

I would argue that performance record is much too high, because it ignores transaction costs which are likely to be huge with this screen. Stockopedia's performance records for its screens assume "equal weighted portfolios of max 25 stocks rebalanced quarterly" and ignore transaction costs. One of the rules for this screen is that the spread of each stock is less than 1,000 bps. That means the spread can be as much as 10% of the share price, not 0.1% as you wrote in your post! See this web page:

https://www.investopedia.com/ask/answers/what-basis-point-bps/

Let's assume that the bid-offer spread of each stock in the portfolio is an average of, say, 4% of the share price. Let's also assume that the rebalancing exercise each 3 months means that only half the stocks from the previous portfolio are sold and their proceeds reinvested in new stocks. That would mean the average transaction cost due to the spread is 2% at each rebalancing. We will ignore stamp duty and stockbroker's commission, because we will assume that they are balanced by reinvested dividends (which are also ignored by Stockopedia's performance records). So we will assume that at each rebalancing each 3 months, the total loss in value due to transaction costs is 2%, or a multiplying factor of 0.98. The reported 5-year return of 126.5% would mean a £100,000 starting portfolio would have grown into £226,500 at the end of 5 years if we ignore transaction costs. However, as there are 20 three-monthly rebalancings over that period, the £226,500 should be multiplied by a factor of 0.6676, which is 0.98 to the power of 20, if we assume an average of 2% transaction costs at each rebalancing. So the final amount at the end of 5 years is £151,213, which represents a 5-year return on the original £100,000 of just 51%, rather than the reported 126.5%.

Oof, good spot pka - I've updated that as it's pretty material.

I take your point on the transaction costs as well, especially considering the nature of this screen. Well illustrated. I've been a buy and hold kind of guy since I started investing, when I was reading Buffett and his ilk (like a lot of people, I imagine), so transaction costs have never been a significant concern for me.

schomosport

3rd Nov '18

Thank you that is a useful reminder on spread. I have been running this screen as a model for the last 14 months with the added filter Stock rank >= 80. And more recently to make 3 monthly re-balancing less of a chore, and transaction costs less of a factor, limiting it to the first 20 stocks. Current return, stamp duty, transaction costs and dividends inclusive is a little under 15%. But doesn't allow for spread.

Within my real portfolio I have a few small cap stocks and portfolio valuation through the day can vary quite substantially depending on whether the last transaction was a sell or a buy. Now if I have 20 stocks, what are the chances come the end of day valuation that half are buys and half are sells which should cancel out the beta effect. I will look harder at the next re-balance since at the moment 15% makes my real portfolio look so sick I was seriously considering investing a reasonable slice following this screen.

Zoiberg

28th Nov '18

Croma Security Solutions (LON:CSSG) " Our financial results have been helped in this year by some large one-off projects, even so, our ongoing trading performance backed by an increase in the number of long-term contracts is more than double two years ago"
(from the final results) Always read the small print!

10 value stocks showing signs of growth

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Jack Brumby

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