Value investing is almost always associated with its so-called ‘father’ Benjamin Graham and his most famous student, Warren Buffett.
Their investment strategies have been widely followed down the years, so much so that, some will argue, there’s no longer an edge to be gained by using them.
There is another value investor though, whose method is less well-known but has proven extremely popular in certain investment circles.
His name is Joseph Piotroski. ‘Who’s that?’ I hear you ask. Well, until last week I wasn’t too sure either, but I heard his strategy is a potential money-maker, so I decided to delve a bit deeper.
Nine boxes to tick
Back in 2000, while working as an accounting professor at Stanford, he came up with what is now known as the Piotroski F-Score.
It is a set of nine rules that tries to identify underlying improvements in companies’ fortunes, looking at things such as strong liquid balance sheets, increasing profitability, and operating efficiency. If you’re really interested, I’ve included the exact criteria below:
- Positive net income
- Positive return on assets in the current year
- Positive operating cash flow in the current year
- Cash flow from operations being greater than net income (quality of earnings)
- Lower ratio of long-term debt in the current period, compared to the previous year (decreased leverage)
- Higher current ratio this year compared to the previous year (more liquidity)
- No new shares were issued in the last year (lack of dilution)
- A higher gross margin compared to the previous year
- A higher asset turnover ratio compared to the previous year
For every box a company ticks, it gets a point. The more ticks, the better the value of the stock and vice versa (supposedly).
The thinking behind it is that it can help to highlight solid, undervalued companies before the market cottons on, and the system's past performance would suggest that it has a fighting chance of working.
Had an investor bought all the companies with scores of 8 or 9 and shorted those with 0 or 1 next to their name, Piotroski claimed they would have earned a 23% annual return between 1976 and 1996. That’s 7.5% higher than what the S&P 500 posted over the same timeframe.
But does the strategy still work today? A few people online have said that it does, so I learned how to use a stock screen and gave it a whirl.
The 'Piotroski 9'
Piotroski’s research showed that the F-Score worked far better on smaller companies, so I ran the screen on the 850 or so companies currently trading on AIM.
Only nine firms passed all of Piotroski’s checks: metal basher Braime Holdings PLC (LON:BMTO); egg-free cake shop chain Cake Box Holdings PLC (LON:CBOX); billing systems firm Cerillion PLC; tech group Cohort PLC (LON:CHRT); blood test manufacturer Ekf Diagnostics Holding PLC (LON:EKF); Falkland-focused FIH Group Plc (LON:FIH); zinc miner Griffin Mining PLC (LON:GFM); chocolatier Hotel Chocolat Group PLC (LON:HOTC); and security systems specialist Synectics PLC (LON:SNX).
Straight off the bat, I’ve got concerns over Hotel Chocolat and Griffin Mining, which have both struggled this year, while Cohort and Braime have surged in recent months, so I’m worried they might have run out of steam. Still, in for a penny, in for a grand (literally).
My boss has generously given me a virtual £10,000 to spend on these stocks, but I’m only going to use £9,000 and trouser the rest…
Ticker
Company
Shares owned
Cost of shares*
Cost per share
Current bid price
Current value
Change
% change
BMT
Braime
60
£1,000
1,650p
1,450p
£870.00
-£130.00
-13.0%
CBOX
Cake Box
550
£1,000
180p
175p
£962.50
-£37.50
-3.8%
CER
682
£998.90
145p
137p
£934.34
-£64.56
-6.5%
CHRT
230
£999
430p
410p
£943.00
-£56.00
-5.6%
EKF
Ekf Diag.
3,640
£1,000.08
27.2p
26.7p
£971.88
-£28.20
-2.8%
FIH
FIH Group
330
£1,000
300p
290p
£957.00
-£43.00
-4.3%
GFM
Griffin Mining
916
£999.28
108p
105p
£961.80
-£37.48
-3.7%
HOTC
Hotel Chocolat
314
£999.10
315p
305p
£957.70
-£41.40
-4.1%
SNX
450
£1,000
220p
200p
£900.00
-£100.00
-10.0%
*Includes £10 dealing fee per trade
- Cash: £3.74
- Value of the portfolio (inc cash): £8,458.22
- Starting value of portfolio (November 2018): £9,000
The plan is to let this run for six months, after which the market has *hopefully* realised that these are top companies and should be valued more highly.
Although, given the size of some of spreads, we’ve had our wings clipped somewhat and are more than £500 in the red before we’ve even started. Onwards and upwards though in our quest to F-Score big!