Below Book - Part 2: Screening Cheap
The easiest way to short-list asset discount stocks? Screen. Here is a global June 2022 bargain bin tour. Plus: An Oracle just bought the deepest asset discount S&P 500 stock. (PBL #2 2022)
The following scatter plot maps most of the U.S. large/mega-cap S&P 500 Index stock universe on June 14, 2022 closing prices. Notice that little green-marked bottom dot?
At a glance, this large-cap stock trades at a Price-to-Tangible Book Value (P/TBV) of around 0.6x (a discount of 40%). While having a decent backward-looking Return on Common Equity (ROE) of around 9.5%.
So we are looking at some sort of likely asset value play, that the market has lost its forward-looking belief in. In this “dot’s” U.S. home equity market most other large/mega-caps from various sectors trade at major premiums to TBV. (Or have negative accounting equity.)
Now, what if this “dot” is the most recent major new stock buy of the world’s most famous and followed value investor. And what if this investor happens to have invested with success for decades in the “dot’s” sector. Coincidence?
The “C” NYSE stock ticker represents the banking heavyweight Citigroup [U.S. ticker NYSE: C 0.00]. The very proven capital allocator who bought in is the insurance conglomerate Berkshire Hathaway [U.S. ticker NYSE: BRK BRKA BRK.A BRKB BRK.B], led by U.S. investor Warren Buffett.
Berkshire discloses its public shares positions with some delay. With Citigroup, this was around three weeks ago. During the first quarter, Berkshire bought 2.8% of all shares outstanding in Citigroup. This represents becoming the banking group’s fourth-largest owner on file. It also represents around 0.8% of Berkshire’s equity portfolio, according to TIKR Terminal.
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Studying Buffett Does Not Make Us Berkshire
Berkshire is likely to make its significant stock picks in the S&P 500 large/mega-cap universe. This is natural for a U.S.-based insurance behemoth in need of writing large investment checks for the long run.
For our small band of PiggyBackers, the average capital we invest is not yet as prohibitive in size as Mr. Buffett’s. Nor are we all U.S.-focused. We all have our different biases, preferences, and mandates when it comes to geographies and sectors.
That said, Citigroup and other large-cap U.S. Financials* could very well offer attractive current risk rewards. Even from a global, non-constrained perspective. Those of us who have not already done should so should consider analyzing the space. (* The alert reader may have noticed: a majority of Chart 2's TBV discounts in the S&P 500 are well-known U.S. financial names.)
The recent Part 1 of our introduction to “cheap” asset discount value stocks focused on how and why simple book value discount stocks (0 < P/B < 1) get a statistical edge.
This Part 2 of 2 is less economics and more practical, as we practically show how to quickly screen out asset discount candidate lists for further research.
We will shortly follow up with a Background overview of commonly used equity metrics. Further introducing our newer investor readers to more value investing concepts and terminology makes PiggyBack and similar publications easier to follow. The Background also includes a conceptual map of the types of cases that PiggyBack’s future single-stock research will feature.
Greetings from the West Coast of Sweden and thanks for reading!
Johan Eklund, CFA
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Screening For Global Asset Discounts (June 2022)
Screening filters a broader investment universe down to a specific characteristic subset. Think of this as choosing and traveling to a promising fishing site. We do so based on previous experience, some new ideas, and our trusted equipment. The actual "fishing" is the analysis and valuation of found investments that follow.
We quickly screen asset discount value candidates using fundamental stock databases. Preferably the ones with high-quality data, broad coverage, and clear presentation. Breadth can be both the number and types of markets and investments supported. But it may also be in the mix of useful data points and metrics per investment.
For this exercise, PiggyBack employs TIKR Terminal (paid link), a high-quality, global-coverage, easy-to-use fundamental screener. To make the process clear we add filters in steps.
Filter 1 - Discount Valuation Metric
Say we want to explore the current, June 15, 2022, asset discount universe. Then we start with an asset discount valuation metric.
Based on the accounting Book Value discount (0 < P/B < 1), discussed in Part 1, TIKR currently shows 13,700 such stocks*. This is 20% of its global coverage of 67,500 securities.
(* = We exclude two primary exchanges “ARCA” and “NasdaqGM” to exclude exchange-traded funds, ETF:s. We also exclude stocks with market capitalization below 5 USD million, as these are less investable and may have less reliable data.)
We color highlight Table 2 to make a point. If only looking at the green-marked P/B (“Trailing P/BVPS LTM”), we see a non-skewed distribution (mean average is close to median) of asset discount stocks. While technically correct, there is a major accounting input problem with the P/B:s: goodwill.
The rightmost, stricter “P/Tangible BVPS LTM” (P/TBV) tangible book value leaves out goodwill. It shows a similar median value, but heavy skew to the upside. No need for detailed statistics: The yellow-marked mean P/TBV is at a 50% premium while the mean P/B is at a 40% discount. And there are negative TBV stocks in the P/B discount set (with no tangible equity on their balance sheets).
The Background on value metrics will make this clearer to all readers. Here is only a short motivation why P/TBV discounts are more useful screens than P/B discounts:
Tangible Book Values strips out all intangible assets from the accounting equity book value. The main benefit of this is that modern goodwill accounting does create a lot of thin air in the books of acquisition-focused companies. We do not accept paying up for goodwill as a fundamental asset.
Other types of accounting intangible asset book values (for example for capitalized development) will seldom be accurate market value proxies. Neither are they as common as the "goodwill problem". So when early screening for value cases, we can accept such assets as “included for free”. These are sometimes patents, copyrights, and brands that could be sold off or licensed for royalties. Our following analysis could catch some of these more rare cases.
So we re-screen using tangible book discounts (0 < P/TBV < 1):
The P/TBV discounts have a similar, non-skewed distribution (mean close to the median). There are 11,800 P/TBV discount stocks, or over 17% of the global universe, only slighter smaller than the P/B version. More important, it is more conservative and useful for screening asset play-type value cases (and even the odd liquidation).
Filter 2A - Geography & Size
Geography and market capitalization “size” are practical and behavioral constraints to many, if not most, investors. So let's use that as our next set of filters.
A series of geography and size combination screens can quickly map out where we currently find the almost 12,000 global discount stock candidates:
Depending on the quality of the above situations, including accounting, all regions offer bargain-hunting opportunities. As expected, the number of tangible book value discount opportunities increases as we go down in market cap size (due to generally higher cost of capital for smaller companies).
Number of opportunities
Asia / Pacific markets offer the most P/TBV discount stocks currently, followed by Europe, then the United States & Canada. In the "Large" market cap segment, the U.S. & Canada discount opportunity set is tiny compared to Asia's, and considerably smaller than Europe's.
Latin America & Caribbean and Africa Middle / Middle East (Other) may have more emerging or frontier market type macro risks. But for our readers with decent access and willingness, these smaller sets of discount stocks are worth checking out.
Level of TBV discount and recent ROE
The median Return on Common Equity (ROE) is generally falling with size, as there are more loss-making smaller firms. This is clear in the low median ROEs of the “Micro” cap segment globally, and the "Small" market caps for Asia / Pacific and U.S. / Canada. Above those segments, the median ROEs are decent for most regions and segments.
The United States & Canada show a wide spread in discount stock ROE with size. The "Large" cap TBV discount stocks show a respectable 15%+ median ROE, and the "Mid's" a not bad 10%+. At the same time, the median U.S. / Canada "Micro" cap TBV discount stock is unprofitable.
These are medians, so half of the discount stocks will be above and half below these ROE numbers.
The ROEs are also backward-looking (TTM = trailing twelve months) for only the most recent period. Cyclicality shows up by studying a full economic cycle decade-long series (or similar).
ROE is a function of both operations and financing. Further analysis is needed to control differences in earnings quality and risk (for example debt leverage).
(Technical: Theoretically, we should adjust the ROEs somewhat higher for this dataset, as we look at tangible equity only with TBV. Return on Tangible Common Equity or similar would be more appropriate.)
Filter 2B - Sector
Another popular high-level screen is sectors or even specific industries. This ensures that stocks with somewhat similar economics are compared. Very useful, both for specialists and generalists.
Number of opportunities
The more or less cyclical Financials, Industrials, Consumer Discretionary, and Materials sectors offer the highest number of discount stocks globally.
Preceding analysis, expect quite a few “inflation-proof” businesses to show up in the Financials, Materials, Real Estate, and Energy spaces. On the downside, the brewing global recession creates shorter-term risks to both financial balance sheets and commodity market demand. A risk-reward balance is best sorted out on a segment-by-segment, stock-by-stock basis.
Level of TBV discount and recent ROE
Median discounts are somewhat deeper in the already mentioned Consumer Discretionary (median P/TBV 0.57x), but also in the more defensive Utilities sector (median P/TBV 0.56x).
The negative outlier is Healthcare, with somewhat lower median discounts despite showing considerable median losses on equity (median ROE -17%). Further analysis would confirm that the sector’s discount stocks are dominated by unprofitable, smaller pharma and biotech. These cash-burn, venture option businesses often* require a specialist analytical skill-set.
(* Some odd rare small pharmas/biotechs become “cash boxes” or royalty-holding companies, after winding-down in-house scientific research.)
Picking Our Pond(s)
By extending with more and more specific filters in an appropriate database, we can start our research with a candidate list that captures fundamental themes.
Too wide and we probably lose focus, if the end goal is active value investing in specific ideas. That is studying businesses and financing, not just playing a quantitative fundamentals factor game (no shame in that).
Too narrow and we risk not seeing the forest for the trees. We might catch random blips but miss strong general trends. We also risk missing nearby candidates with a bit less attractive standard metric optics. Some of those missed candidates would show to be better-positioned businesses by just a glance at the latest annual report or a Google search.
As value investors, we tend to relate fundamental characteristics—good, bad, or ugly—to valuation metrics.
At times those valuation metrics will become unattractive across whole markets. Then it becomes a matter of waiting or looking for better ponds.
DISCLAIMER: This publication and all related communications are for informational and educational purposes only. All readers are assumed to accept the full version of this disclaimer, available at the following link.
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Johan Eklund, CFA
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