Value Strategies.pdf

8/10/2019 Value Strategies.pdf

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Value Strategiesfor

Conservative Investors

Canadian MoneySaver ConferenceOctober 2003

Norm Rothery, PhDwww.stingyinvestor.com


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Slide 3 of 22 Norm Rothery 2003

Before Investing

Be debt free

No Credit Card Balances No Loans No Mortgages

Have a rainy weather fund

Stash 3-6 months of income in short term notes High interest bank accounts

ING Direct American Express

Short-term GICs Frugal short-term income funds

Save for large ticket items Homes Cars Tuition Medical

Insurance

Make sure that you are fully covered


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Why invest in stocks?

U.S. Annual Returns adjusted for inflation and taxesPeriod Stocks Bonds T-Bills Gold

1802-1996 5.9% 2.3% 2.1% 0.06%

1802-1870 7.0% 4.8% 5.1% 0.18%

1871-1925 6.6% 3.2% 2.7% -0.82%

1926-1996 4.2% -0.71% -1.1% 0.63%

Source: David Dreman


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Controllable Factors: Taxes and Trading

Investment compounded for 20 years with a 27% tax on gains

Annual ReturnBefore Tax

AnnualTurnover

Value of $1Mafter 20 yrs

Annual ReturnAfter Tax

15% 0% 16,366,500 15.0%

15% 3% 14,780,800 14.4%

15% 10% 12,386,300 13.4%

15% 30% 9,694,000 12.0%

15% 80% 8,136,600 11.1%

15% 100% 7,990,800 11.0%

Source: www.tweedy.com

Group Annual Turnover

Single Men 85%

Married Men 75%

Married Women 53%

Single Women 51%

Phone Trading ~70%

Online Trading ~90%

Source: John Nofsinger


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Indexing: The default choice

Simply buy a basket of stocks that mimics an index.

Potential Advantages low cost broad diversification tax efficiency through low turnover

Source: A Random Walk Down Wall Street

Potential Disadvantages selecting a good index

high-fee index funds & ETFs limited diversification from specialty indices valuation


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Valuation


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Valuation


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Select Value Strategies

Benjamin Graham: The Father of Value Investing

Margin of Safety Assets on the cheap Stable growth Low debt with a high earnings yield.

David Dreman: Relative Ratios

Price-to-Earnings Price-to-Book Price-to-Cash Flow High Dividend Yield

Dividend Yield

Warren Buffett

Strong Companies Concentration Margin of Safety Qualitative


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Benjamin Graham Margin of Safety

There are instances where a common stock may beconsidered sound because it enjoys a margin of safetyaslarge as that of a good bond. This will occur, for example,when a company has outstanding only common stock thatunder depression conditions is selling for less than theamount of bonds that could safely be issued against itsproperty and earning power. That was the position of ahost of strongly financed industrial companies at the low

price levels of 1932-33. In such instances the investor canobtain the margin of safety associated with a bond, plus allthe chances of larger income and principal appreciationinherent in a common stock

-The Intelligent Investor (4thed) pg 278

Factors

Price much less than Working Capital Strong balance sheet Profits and expected profits

Problems

Scarcity of such stocks Hidden liabilities Poor outlook


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Benjamin Graham Defensive Investors

Guidelines for Defensive Investors

Price-to-Earnings Ratio less than 15 Price-to-Book Ratio less than 1.5 Book Value over 0 Current Ratio over 2 Earnings growth of 33% over 10 years Uninterrupted dividends over 20 years

Some earnings in each of the past 10 years Annual revenue of more than $100 Million (1950)

The Intelligent Investor 4thEd, pgs 184-185

My Approximation

Price-to-Earnings Ratio less than 15 Price-to-Book Ratio less than 1.5

Book Value per share more than 0.01 Current Ratio more than 2 Annual EPS Growth (5 Yr Avg) > 2.9186%. 5 Year Dividend Growth more than 0% 5 Year P/E Low more than 0.01 1 Year Revenue more than $400 Million

- See November 2003 Canadian MoneySaver


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Benjamin Graham Defensive Investors

Performance of previous Graham Picks (October 3 2003)

Stock Initial Price Current Price Gain

2000 Graham Stocks (12/12/2000)

AAR Corp (AIR) $11.94 $9.70 -15.8%Haverty Furniture (HVT) $10.06 $20.76 112.4%La-z-boy (LZB) $15.88 $23.20 52.7%Rollins Truck (RLC) Bought in 2001 82.0%Reliance Steel (RS) $25.13 $23.00 -5.9%Tredegar Corp (TG) $15.56 $15.70 3.5%Thor Industries (THO) $19.69 $60.70 *517.7%Wabash National (WNC) $7.81 $16.75 116.1%Watsco (WSO) $11.35 $19.65 102.6%

Average Gain 107.3%S&P500 (SPY) -22.2%

2001 Graham Stocks (10/29/2001)

Centex (CTX) $39.45 $83.71 112.8%Domtar (DTC) $8.19 $11.38 43.0%Haverty Furniture (HVT) $12.80 $20.76 65.3%M.D.C. Holdings (MDC) $27.35 $59.11 *164.1%Pulte Homes (PHM) $33.83 $71.42 111.8%

Average Gain 99.4%S&P500 (SPY) -1.4%

2002 Graham Stocks (10/27/2002)Centex (CTX) $43.38 $83.71 93.3%Pulte Homes (PHM) $46.17 $71.42 55.0%D.R. Horton (DHI) $20.16 $36.12 80.4%Woodward Governor Company(WGOV)

$36.62 $45.97 28.1%

M.D.C. Holdings (MDC) $37.91 $59.11 *72.5%Standard Pacific (SPF) $25.10 $40.39 62.2%Seaboard (SEB) $207.00 $229.50 12.3%Universal Forest Products (UFPI) $18.34 $26.93 47.3%Haverty Furniture (HVT) $11.75 $20.76 78.7%

Watsco, Inc. (WSO) $14.25 $19.65 38.7%Average Gain 56.8%S&P500 (SPY) 16.3%

Source: quote.yahoo.com, *Adjusted for splits

This Year: Pulte Homes (PHM) & Ameron Int (AMN)


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Benjamin Graham Earnings Yield

Average annual % gain or loss from 1937 - 1969

Period 10 lowestP/Es

10 highestP/Es

30 DJIAStocks

1937-42 -2.2% -10.0% -6.3%

1943-47 17.3% 8.3% 14.9%

1948-52 16.4% 4.6% 9.9%

1953-57 20.9% 10.0% 13.7%

1958-62 10.2% -3.3% 3.6%

1963-69 8.0% 4.6% 4.0%

Average 11.8% 2.4% 4.6%

Source: Benjamin Graham

A low price-to-earnings approach also worked from 1970-1997

Quintilelow1 2 3 4

high5 market

Return 19.0% 17.4% 14.6% 13.1% 12.3% 15.3%

Source: David Dreman

Grahams Earnings Yield Approach Earnings Yield > twice that of AAA Corporate Bonds

Maximum P/E Ratio of 10 Equity / Total Assets more than 50% From 1926-1976 yielded 2 times the returns of the DJIA

The Rediscovered Benjamin Graham, pg 259


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David Dreman: Industry Ratio Analysis

Industry-Relative Price-to-Earnings from 1970-1997

Quintilelow1 2 3 4

high5 market

Return 17.7% 16.7% 16.1% 13.7% 12.2% 15.3%

Industry-Relative Dividend Yield from 1970-1997

Quintile

high

1 2 3 4

low

5 market

Return 17.0% 16.0% 14.9% 14.1% 12.7% 14.9%

No need to rush

P/E buy-and-hold annual returns (1970-1996)

Quintile 2 Years 3 Years 5 Years 8 Years

1 (low) 18.7% 18.1% 18.7% 18.4%

2 16.9% 16.5% 17.1% 17.5%

3 15.3% 15.2% 15.5% 16.2%

4 13.5% 13.7% 14.4% 15.3%

5 (high) 11.9% 11.3% 11.8% 12.8%

Market 15.3% 15.0% 15.6% 16.2%

Source: Contrarian Investment Strategies: The Next Generation


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Dividend Based Approaches

High Dividend Yield

Dividend Yield from 1970-1997

Quintilehigh

1 2 3 4low5 market

Return 16.1% 17.5% 15.1% 13.8% 12.2% 14.9%Source: David Dreman

[Attend David Stanleys Presentation for more info]

Relative Dividend Yield Compare yield to historic highs/lows Compare yield to an appropriate index

Dividend Growth High yield compared to similar payout ratios Stick to low dividend payout ratios Current and expected profits Little debt

Distressed Dividends


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Warren Buffett

We believe that our formula the purchase at sensible prices of

businesses that have good underlying economics and are run byhonest and able people is certain to produce reasonablesuccess.

Strong companies at fair prices

An investor should act as though he had a lifetime decision cardwith just twenty punches on it. With every investment decision hiscard is punched, and he has one fewer available for the rest of hislife.

Concentration

There is simply no precision to the process - and if you think so,you are kidding yourself. There should be such a margin of safetythat you dont need to carry it out to three decimal places.

Margin of safety

The qualitative is harder to teach and understand, so why not just

focus on the quantitative? ... It makes more sense to buy awonderful business at a fair price.

Difficult to emulate


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Potential problems with value investing

Value stocks can be psychologically unappealing

Hard to boast about your newest picks Unlikely to hear good things in the news People may criticise your ugly ducklings Holding for long periods is seen as slothful

Taxes may be higher Higher turnover

High dividend payments may not be as taxefficient as capital gains.

Commissions may be higher low volume stocks tend to have higher

spreads and buying large positions mayimpact the market.

Value is often seen as an unrealized risk factor

Cheap stocks can get cheaper before recovering

Cheap stocks can just get cheaper


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Cheap stocks can get cheaper

While value stocks may outperform the market,they may lose ground in a meltdown

The markets are still very expensive on a

historical basis and remain dangerous


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Value Strategies for Conservative Investors Norman Rothery

Value Oriented Books

Security Analysis by Graham & Dodd 007141228X

The Intelligent Investor by Benjamin Graham 0060555661 The Rediscovered Benjamin Graham by Janet Lowe 0471244724

Value Investing Made Easy by Janet Lowe 0070388644 Contrarian Investment Strategies by David Dreman 0684813505 What Works on Wall Street by James P. OShaugnessy 0070482462 Relative Dividend Yield by Anthony Spare 0471327050 Beating the Dow by OHiggins & Downes 006098404X Buffett: The Making of an American... by Roger Lowenstein 0385484917 Value Investing by Martin Whitman 0471398101

Web Resources

www.stingyinvestor.comwww.frugalfunds.com

Overheads

www.stingyinvestor.com/SI/articles/talks.shtml

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Value Strategies.pdf