Fama, French and Ward

Fama/French Analysis

What is Book Value?

Nissan Motor (NSANY)

Eugene Fama, Nobel Laureate

Eugene Fama recently won the Nobel Prize in economics for his work on portfolio theory and asset pricing. He drew my attention several years ago when I discovered that he and Kenneth French had done exhaustive studies to find out which stocks perform best in the stock market.

J. Royden Ward, Chief Analyst, Cabot Benjamin Graham Value Investor

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Fama’s background is very interesting. Born in Boston in 1939, he graduated from Malden Catholic High School. He then earned his undergraduate degree in economics magna cum laude from Tufts University where he was selected as the school’s outstanding student-athlete.

Fama earned his M.B.A. and Ph.D. from the University of Chicago in economics and finance. He spent his entire teaching career at the University of Chicago. He conducted extensive research on stock market efficiency to prove or disprove the theory that investors can’t beat the market because prices reflect all available information. His conclusion: You can beat the market some of the time, but not all of the time because you can’t determine whether prices reflect all available information.

One of Fama’s other conclusions is that small cap stocks and value stocks consistently outperform growth stocks. Tom Garrity, chief analyst of Cabot Small-Cap Confidential, and I have known this for years. Now we have a Nobel Laureate on our side, as well. If you don’t have small caps and value stocks in your portfolio, you are missing the best of the best!

Eugene Fama collaborated a lot of his research with Dartmouth’s Kenneth French. Fama and French used value stocks with low P/BV (price to book value) ratios in their analysis because they define a value stock as a stock having a low P/BV ratio. In Cabot Benjamin Graham Value Investor, I have been selecting stocks with low P/BV ratios for the past 10 years. The results have been exceptional.

Definition of Book Value
I find that a lot of investors are unfamiliar with book value and book value per share, so, a quick definition is in order. Book value is shareholder’s equity (also called retained earnings) which is a number found near the bottom of a company’s balance sheet. Book value per share is simply the shareholder’s equity or retained earnings divided by the number of common shares outstanding. The number of shares can be found either on the balance sheet or the income statement.

Is book value per share important? By itself, no. But when compared to the company’s stock price, it’s enormously important. In short, quality companies with low price-to-book value per share ratios (P/BV) have outperformed companies with high ratios for the past one-, three-, five- and 10-year periods. Fama’s work includes all data since 1928, so we can also conclude that companies with low P/BV ratios have outperformed companies with high ratios during the past 85 years!

My Previous P/BV Picks

In my December 27, 2012 Cabot Wealth Advisory, I focused on stocks with low P/BV ratios and presented two recommendations: Corning (GLW) and Xerox (XRX). GLW surged 59% and XRX climbed 18% compared to a 22% gain for the S&P 500 Index. Then in my May 16, 2013 Cabot Wealth Advisory, I recommended another stock with a low P/BV ratio: Core-Mark Holdings (CORE), which gained 21% while the S&P 500 gained just 5%. My Cabot Benjamin Graham Value Investor record, though, is even better!

Ben Graham Value Investor

My Value Stock Research

I recently scoured my databases to find the best companies with low P/BV ratios. I found that 94 companies in my database of 1,000 companies have P/BV ratios of 1.20 or lower. I used several additional criteria to narrow the list of 94 companies by also requiring Standard & Poor’s Earnings/Dividend ratings of B or better, low price-to-earnings (P/E) ratios, dividend yields of 1.0% or higher and good earnings prospects for the next 12-month and five-year periods.

My search turned up one company with a fascinating 80-year history. The company endured tough times during the 2008 financial collapse. The company reinvented itself and is now gaining market share from its competitors. The stock price is currently a bargain and the company looks attractive to me.

Nissan Motor (NSANY Price 21.06), founded in 1933 and based in Tokyo, designs, produces and sells passenger cars and commercial vehicles in 190 countries. In March 1999, Nissan and Renault signed an alliance agreement and began setting up joint projects covering most of the activities of both companies. Nissan owns a 15% stake in Renault, and Renault holds 44% of Nissan’s shares.

Nissan’s sales and earnings performance has been lackluster during the past several years, but management’s six-year business plan, announced in 2011, looks promising. Nissan plans to deliver an all-new vehicle every six weeks. The company’s global portfolio will have 66 vehicles and will cover 92% of all markets and segments. Nissan’s focus on sustainability will continue, including making zero-emission vehicles and using low-emission technologies.

Sales declined 5% to $103 billion and EPS dipped 2% during the 12 months ended 6/30/13. More recent results indicate that Nissan’s sales will advance 9% and EPS will jump 24% during the next 12 months. Results will likely continue to improve in future years as the company rolls out new vehicles and expands into new markets. Sales in China are improving. European sales are showing positive signs of rebounding, too.

Nissan shares sell at 11.5 times current EPS and provide a decent 2.4% dividend yield. The stock price sells at a 7% discount to its book value, which is outstanding. Shares will likely reach my Min Sell Price of 30.42 within one to two years.

I will continue to follow Nissan and other first-rate, high-quality companies in Cabot Benjamin Graham Value Investor. In my October Special Feature, my comprehensive analysis turned up additional bargains with low P/BV ratios that are ready to rocket higher. I hope you will become a subscriber so that you can take advantage of the many bargains that I uncover every month!

Sincerely,

J.Royden Ward
Chief Analyst of Cabot Benjamin Graham Value Letter

Editor’s Note: You can find additional dividend-paying stocks selling at bargain prices in the Cabot Benjamin Graham Value Investor. In every issue, you’ll find my legendary Maximum Buy and Minimum Sell Prices for over 250 stocks.

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