A Thrifty Thirty
Posted on February 26, 2009 by Richard Beddard
Filed Under Investing, Markets |
Thirty cheap and cheerful stocks
Yesterday I identified 160 UK stocks that meet Benjamin Graham’s simple criteria for bargain stocks:
- The shares are cheap: They have a price earnings ratio of less than 10
- The company owns more than twice what it owes: Shareholders’ funds are more than 50% of total assets.
Graham proposed that investors pick a diversified portfolio of at least thirty shares, but he didn’t say how.
One option is to pick the cheapest.
According to my list, the cheapest thirty stocks include nine property companies, six financial companies, four mining companies and two construction companies. It ‘s skewed towards smaller companies. All thirty shares have PE ratios of two or less, which suggests they are high risk/reward.
That’s hardly surprising since these are the sectors suffering most in the recession and falling prices shrink a company’s market value. Although a portfolio of bombed-out cyclical shares might produce the best returns, it doesn’t feel diversified.
An alternative is to sort the spreadsheet by sector and then PE and select, as far as possible, the same number of shares from each sector. That would introduce food producers, software companies media outfits, engineering companies, and oil producers at the expense of some of the property and mining companies.
It’s not perfect. Some sectors occur only once or not at all, and the classification looks odd when it puts Aga Rangemaster, which manufactures cookers, in the same sector as Bovis, which makes houses.
I also doubt the viability of some of cheapest stocks. Many of them only listed in recent years. They’ve established short records of profitability, but only in the recent boom. Since we’re facing a much more uncertain future, buying shares in unproven companies seems unduly speculative.
In Security Analysis, Graham advocated another measure to avoid relying on unrepresentative recent profit figures, the long-term price earnings ratio, which I shall invoke to produce a diversified list of 30 genuinely cheap stocks.
Here’s my experimental Thrifty Thirty on Google docs.
These shares are thrifty because they’re cheap and the companies aren’t overly indebted, and there are thirty of them. They won’t all be winners, companies with low debt still go bust, and companies with no debt can run out of cash, but, according to Graham, the portfolio as a whole should do well if we follow his rules1.
Footnotes:
- Essentially, sell a share if it appreciates by 50% or at the end of the second calendar year after the date of purchase (see the first article in this series)
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6 Responses to “A Thrifty Thirty”
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The RBS losses and corporate governance are a shame to the company and government. The beneficiaries have unshamedly extracted great personal wealth and can still walk free. They should be prosecuted and jailed as an example to all. Such action would be a stark example to all who would think again about sacrificing other peoples money for personal reward !
the Thrifty30 has already grown to Faulty41 (just joking), been watching your blogs for a few months now, your NET-NET portfolio of 25 nov 2008 has grown 75%. I keep track of various portfolio based on different stratergies and the NET-NET far exceeds ALL others, second place goes to my own LOSERS, any big loosing share is checked and if ‘emotion’ says the market overreacted, then buy for max 1 week - only shown 4% gain but annulasized thats over 1000% per year as investments are shortterm.
Keep up the great blogs
Hi Steve. Thanks for your comments, I’m always very interested to hear about investors’ methods of beating the markets.
The trouble with net-nets, much like the thrifty thirty, is that I don’t have a read way of screening for the stocks. The data just isn’t on the internet. If the net-net portfolio’s up 75% it sounds like its time to sell and invest in another bunch of net-nets. There’s probably plenty around.
If you’re following the blog you might want to follow me on Twitter (@RichardBeddard). Then you got all sorts of dodgy comments that are too off-the wall even or the blog! But the thing I really like about it is it’s two way. You follow me/I follow you. Even more like a conversation.
Hi Richard,
As usual, an excellent insight into value investing.
I noticed that a few companies has a LTPE that was greater than their current PE. How do you go about weighting the PE difference against other indicators (e.g Fyffes)?
Regards
Hi Richard,
Sorry about the bad grammar in my previous post!
Now that I have read your other blog entry I see that you are not actually filtering for companies with a PE less than their long term PE. You are just filtering for companies with a low long term PE.
It is interesting that there has been a reprisal of interest in Benjamin Grahams work recently as it shows that investment strategies, like the economy, are cyclical in nature.
Take the PE and long term PE for example. For the last 5 years (before the start of the bear market of 2007-2011), the S & P 500 PE has been below its long term PE which has probably led people to think that the ever increasing growth is sustainable.
The problem with PE is that it does not fully account for debt. It only accounts for debt repayments. If 90% of the earnings are dependant of cheap debt then you only need a 5% increase in interest rates to halve the earnings.
Therefore I am glad that you have included a gearing factor in your filter however I think it would be more informative to know how much of the earnings are affected by the debt repayments. Is there a way to work this out from information in the stock screens?
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