Value picking, Greenblatt style, works rather well in a conducive macro environment…
Globally, India is in a sweet spot.
Reasonable growth prospects, a strong reform-oriented government and a recent S&P upgrade to stable from negative, solid capital inflows and a tame current account deficit highlight the country’s attractive macro situation.
Contrast this with recessionary conditions in the Eurozone, the slowing growth in China and its credit and real estate bubbles, the fast deteriorating economic situation in Russia due to Western sanctions, and the stubbornly sluggish economic conditions in Japan.
Not surprisingly, Indian stocks have been on a tear. The leading Nifty stock index has risen from its low of 5319 in September 2013 to a high of 8180 in September 2014 – that’s a rally worth nearly 54%!
In such a rabidly bullish environment, the old ‘value’ versus ‘growth’ argument might be of academic importance, as the rising tide likely lifted all boats.
Greenblatt screens: Value delivers
Not so, says a September 29 strategy note on quality-driven value frameworks – applied to Indian stocks – from analysts Gaurav Mehta, Karan Khanna and Saurabh Mukherjea of Ambit Capital.
“As we have repeatedly highlighted, in an economic revival with up-trending markets, ‘value’ as a style works very well,” they say. “This indeed has been the case for most part of the past 12 months, with ‘value’ based strategies outperforming the broader market.”
According to the chart below, value has consistently outperformed growth over the past decade.
With that argument out of the way, let’s take a look at one of Ambit’s quality driven value screens that back-tested for Joel Greenblatt’s famous Magic Formula for picking value stocks (The Little Book That Beats The Market, Joel Greenblatt, 2006).
Ambit applied the screen to stocks in the BSE500 index with data going back to 1998.
And…the magic does work
Ambit used the following measures for calculating and ranking value stocks as per Greenblatt.
Return ratio = (Pre-tax RoCE which includes interest and dividend income along with EBIT)/(Total capital including cash)
Earnings yield = (Pre-tax RoCE as above) / (Market value of capital (debt plus equity without excluding cash)
The evaluation throws up companies that feature strong returns along with low valuations.
The results were ‘impressive’ per Ambit as per the graph below.
Here are the stocks that are the best of the lot from the Greenblatt screen. These stocks on aggregate outperformed the BSE500 index by 2.5% over the last three months.
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