Simple strategy with back-test results

[abhikjha]

I recently came across an extremely wonderful book called “Acquirer’s multiple (AM)” written by Tobias Carlisle.

In this book, he explained a very simple but thought-provoking concept related with Deep Value investing and introduced a financial ratio which he calls AM.

Its simply defined as:

AM = Enterprise Value (EV) / Operating Profit

The lower the ratio, the better the pick. Main concept is that EV of a company is very low compared to operating profit it’s making and thus with mean-reversion in long term, company will reach to its true value.

I got fascinated with this idea because it was making a lot of sense to me and tried to explore this in the Indian context, specially I wanted to see how will the back-test results look like for our market.

Before exploring it further, I tweaked the overall screener setup like this:

1. Market Cap > 1000 Cr.
2. AM < 5 and
3. AM > 0 and
4. Long term debt to equity < 30%
5. Promoter holding > 40% and
6. ROCE annual average for last 5 years > 20%

On Trendlyne screener, this gives the total 17 companies. Why I used Trendlyne screener because unfortunately even with so many years of existence in place and with so many requests from users, our beloved Screener.in doesn’t have this feature as yet, even under paid version. Anyway, let’s move on to the important part.

I then back-tested these screener results and found astonishing results.

So, here are the details of the back-test result:

Isn’t it amazing!!! Basically, around 37% CAGR over 10 years.

Few things to note though:

1. This CAGR marginally drops if the stock universe selection is all stocks compared to NIFTY 500 stocks. So while the screener will give a large number of results because you cannot filter out only NIFTY 500 stocks, the overall number of stocks reduces significantly. At the moment, only 4 stocks qualified which are also part of NIFTY 500 stocks.
2. The longer the holding period, the better the results.
3. Average number of stocks per period was roughly 5 over 10 years.
4. Average holding period of stock was nearly 2 years.

Here is the chart of the performance of the screener:

Here is the overall summary of returns and its comparison with benchmark returns:

[ChaitanyaC]

I know that there are many gaps in my knowledge, and those gaps are as wide as they come, but I am not too sure, if one can invest in a company for long term based on ratios, other than what are usually looked at to analyze a business.

I do acknowledge that there must be a lot of merit in creating and presenting such ratios or concepts, which sometimes could be beyond my current understanding, but from my limited knowledge and experience, what the market participants think of the business, who are very different groups, but arrive at the same conclusion of either moving the price up or down, play the bigger role. So while such ratios are intriguing, they may not work as anticipated and may test our patience. I don’t know if the line between a value buy and a value trap is thin.

I also acknowledge the fact and the beauty of purchasing something less than its value, and see it becoming profitable. The thought of looking at such opportunities cross my mind sometimes. Sales, profit, cash flows, dividends, all are in place, it is just the price that feels wrong.

And if I remember correctly, I did buy something, looking just at its ratios, and paid dearly. I think I read a comment along the lines of, numbers are past, or they reflect the business up to that point etc.

Just my thoughts, presenting my views for my own benefit and clarity. No intention to curb your enthusiasm, I am enthusiastic myself. We can create our processes and philosophies from many varying sources, different schools of thought and multiple disciplines.

[abhikjha]

Thanks for the write up. I completely agree with you. This was in no way a recommendation to solely use this method to invest in stocks, rather I was intrigued with the simplicity of the method and wanted to share with the group the results I got with back-testing.

Over the past years, I learnt and again that with my experience in the market, that there is no simple way or a defined way to make profits. I now normally use the best of the both worlds - technical and fundamental to invest. Technical analysis such as 52 weeks high, ATH, stage analysis, MM trend etc. gives me the ideas about the stocks which are in momentum and looking good technically which means that all the expectations are already built in the price. This is kind of stock screener for me. Once I have few ideas, then I evaluate all those stocks independently on my own valuation template which I have built over the years to find out if the stock is over-valued or under-valued along with many other parameters such as EVA, ROIC, reinvestment rate, ROIIC etc. Acquirer’s multiple is one of those parameters. This further refines the universe for me. After that I do some bit of qualitative research to understand the business and management quality and outlook. If the business is simple enough to understand, management is capable and it has good clientele and good competitive advantage, I then invest in that stock and then forget about it until technical charts give me major red warnings or sales / OPM starts falling down.

[NirantK]

Hello!

Thanks for sharing Acquirer’s Multiple results. I tried to replicated these with the following:

Market Capitalization in Cr > 1000 AND
AcquirersMultiple < 5 AND
AcquirersMultiple > 0 AND
Long Term Debt To Equity Annual < 30 AND
Promoter holding latest % > 40 AND
ROCE Annual 5Yr Avg % > 20

And the best I’m able to do seems to be about 30%? I’m definitely doing something wrong. Here is what I’ve tried to fix:

Acquirer’s Multiple Definition: EnterpriseValue Annual Cr / Operating Profit Annual in Cr

Duration: I’ve matched the Sep 15 Date from the screenshot you had shared!

I bought Trendlyne specifically after seeing your post, and would really appreciate any assistance in spotting the error

[abhikjha]

Thanks for trying it out. I think the problem is with the debt to equity formula. It should be 0.3 instead of 30. Also, after correction, can you share the list of stocks the screener throws out? Recently I tried with ROCE> 25 instead of 20 and results were even better.

[NirantK]

With Debt to Equity < 0.3 and ROCE > 25

This is my entire screener query:

Market Capitalization in Cr > 1000 and AcquirersMultiple < 5 and AcquirersMultiple > 0 and Long Term Debt To Equity Annual < 0.3 and Promoter holding latest % > 40 and ROCE Annual 5Yr Avg % > 25

And current/recent stocks will be:

“Stock”,“AcquirersMultiple”,“ROCE Annual 5Yr Avg %”,“Market Capitalization in Cr”,“Long Term Debt To Equity Annual”,“Promoter holding latest %”,“Current Price Rs”,“Latest financial result yyyymmdd”,“PE TTM Price to Earnings”,“Price to Book Value”,“Revenue QoQ Growth %”,“NSE Code”,“BSE Code”,“ISIN”
“Maithan Alloys Ltd.”,“2.05”,“28.3”,“2953.08”,“0”,“74.99”,“1014.4”,“2023-06-30”,“8.69”,“1.05”,“-24.51”,“MAITHANALL”,“590078”,“INE683C01011”
“Refex Industries Ltd.”,“3.41”,“45.3”,“1256.67”,“0.13”,“53.33”,“568.45”,“2023-09-30”,“10.28”,“4”,“-8.14”,“REFEX”,“532884”,“INE056I01017”
“EID Parry (India) Ltd.”,“3.59”,“26.09”,“8935.35”,“0.02”,“44.51”,“503.35”,“2023-09-30”,“9.02”,“0.94”,“28.93”,“EIDPARRY”,“500125”,“INE126A01031”
“Godawari Power & Ispat Ltd.”,“3.6”,“29.89”,“8482.29”,“0”,“63.26”,“623.95”,“2023-09-30”,“10.8”,“1.98”,“-2.61”,“GPIL”,“532734”,“INE177H01021”
“NMDC Ltd.”,“4.3”,“27.69”,“49439.32”,“0”,“60.79”,“168.7”,“2023-06-30”,“8.51”,“2.18”,“-7.81”,“NMDC”,“526371”,“INE584A01023”
“Monarch Networth Capital Ltd.”,“4.49”,“28.74”,“1587.46”,“0.01”,“52.37”,“468.7”,“2023-09-30”,“21.88”,“7.03”,“77.95”,“MONARCH”,“511551”,“INE903D01011”
“Share India Securities Ltd.”,“4.56”,“44.26”,“4976.33”,“0”,“52.81”,“1521.2”,“2023-09-30”,“12.66”,“4.89”,“32.12”,“SHAREINDIA”,“540725”,“INE932X01018”
“Panama Petrochem Ltd.”,“4.99”,“27.31”,“1836.28”,“0”,“69.25”,“303.55”,“2023-09-30”,“9.48”,“1.93”,“8.48”,“PANAMAPET”,“524820”,“INE305C01029”

[Manu_Jha]

Hi Abhi,

Have further tweaked the revenue growth and annual roce as both of these parameters become important for my comfort.

6 losers out of total 23 stocks and 17 winners.

My query :

“Market Capitalization in Cr > 500 and
Long Term Debt To Equity Annual < 0.3 and
Promoter holding latest % > 40 and
ROCE Annual 5Yr Avg % > 25 and
( EnterpriseValue Annual Cr / Operating Profit Annual in Cr ) < 5 and
( EnterpriseValue Annual Cr / Operating Profit Annual in Cr ) > 0 and
ROCE Annual % > 10 and
Revenue Growth Annual YoY % > 0”

Current list :