market spawns a plethora of stock-picking strategies, but a simple one has been producing gains for 86 years.
Picking stocks with low P/Es is a classic value-investing technique. It’s one reason why I was pleased to see an update of Graham’s study several years ago from money manager James O’Shaughnessy, who wrote the excellent book,Mr. O’Shaughnessy found that a portfolio composed of the 10 stocks with the lowest P/Es in the DJIA climbed at an average annual rate of 9.2 per cent from June 30, 1937, to June 30, 2004. The DJIA itself moved up 7.0 per cent annually over the same period.
That’s not bad, but the 10-stock high-P/E portfolio fared a touch better, with average annual returns of 8.9 per cent over the same period, while the DJIA climbed by an average of 9.1 per cent annually. I hasten to add that combining the results of the studies may not be perfect because there could be methodological differences between the two. For instance, each study likely defines earnings in a slightly differently way.