Benjamin Graham, the father of value investing, crafted a disciplined framework for discovering stocks trading below their true worth. Building on Graham’s foundational principles, Validea developed a systematic approach that emphasizes companies with proven financial health rather than those promising speculative returns.
The strategy evaluates potential investments through several key lenses:
First, companies must demonstrate fundamental strength. This includes generating substantial revenue of at least $340 million annually and showing consistent profitability over five straight years. The strategy specifically avoids technology sector investments, focusing instead on more traditional industries.
Financial health is paramount, with strict balance sheet requirements. Companies need robust liquidity, demonstrated by a current ratio above 2.0, and their net current assets must surpass long-term debt obligations. Debt limits are tailored by industry – industrial companies can’t exceed 100% debt-to-equity, while utilities have a higher threshold of 230%.
The approach demands proven performance over time. Companies must achieve significant earnings growth of at least 30% over a decade, measured using three-year earnings averages to smooth out short-term fluctuations.
Valuation plays a crucial role in the final selection. Stocks must trade at reasonable multiples, with a price-to-earnings ratio no higher than 15 (based on three-year average earnings). Additionally, the combined price-to-earnings and price-to-book ratios cannot exceed 22.
This comprehensive framework helps investors identify financially robust companies trading at attractive prices, incorporating Graham’s essential principle of maintaining a margin of safety. By applying these rigorous standards, investors can build a portfolio of established businesses with strong fundamentals and compelling valuations.
Here are the top 10 stocks using Validea’s Benjamin Graham strategy for November of 2024.
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