Investment strategy: Buy Low P/B stocks

Price to Book Ratio is defined as (Current Price of a share) / (Book Value of a share). The Current Price of a share is the current price on the stock market, while the Book Value of a share is the value of the share stated in the annual report. After liquidation of the firm and selling every brick, in theory, you should get book value. Therefore, the Current Price should be greater then Book Value meaning that Price to Book ratio should be greater than 1.0, but that is not always true.

In general, low Price to Book ratio of a company might indicate two things: the company is either undervalued or in troubles.

Step by step procedure in selection of a potential winner based on low Price to Book ratio:

1. Choose a company
2. Find Price to Book ratio for the company
3. Find Price to Book ratio for the industry of that company
4. If the PB ratio for the company is greater than the PB ratio of the industry go to the step 1 (choose another company).
5. Check the ROE ratio and its growth.
6. If the ROE ratio isn't growing, or if it is below average ROE for the industry, then go to the step 1 (choose another company).
7. Check for Debt to Equity ratio. If it is low (perhaps even zero) then this company might be worth to buy.

It is important to notice that low Price to Book ratio might mean that there is something fundamentally wrong with that company. That is the reason why you should check for other parameters to see if it is really something wrong with the company. Always assume that there is a reason why the company has small PB ratio, and look for parameters that confirms that. If you find little or no evidence that the company is in troubles, then consider this as a buy signal.