Can size-, industry-, and leverage-adjustment of valuation ratios benefit the value investor?
by Eero J. Pätäri; Ville Karell; Pasi Luukka
International Journal of Business Innovation and Research (IJBIR), Vol. 11, No. 1, 2016

Abstract: This paper introduces a new and innovative methodology for value portfolio selection by adjusting the conventional valuation ratios on the basis of firm size, financial leverage and industry classification and combining them as single selection criteria. The tercile portfolios are composed of a comprehensive sample of Finnish non-financial stocks based on their adjusted valuation. The performance of portfolios is evaluated on the basis of the average return and several risk-adjusted performance metrics throughout the 1996-2013 sample period. The results show that the suggested multidimensional combination criteria can add value to equity portfolio selection. The outperformance of such top-tercile portfolios in contrast to both the comparable bottom portfolios and the stock market portfolio is statistically significant on the basis of all performance metrics employed. The methodology employed offers an interesting alternative for identifying undervalued stocks by capturing both several dimensions of relative value and several peer-group comparisons at the same time.

Online publication date: Thu, 07-Jul-2016

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