Think outside the box with value investing

The world is a wonderful place full of strange, quirky, and unusual people. They can provide an extra spice that makes life fun.

Around these parts they like to mix their portfolio strategies, mashing up value investing peanut butter with momentum chocolate. But we’ll get to that delectable combination in a bit.

Instead, let’s take a little diversion to explore a different merry band of game markers who have a habit of mixing things up by throwing curve balls, but this time we’re talking about at economists not portfolios.

I’ll start with a simple notion. The idea being that when you raise the price of something, your sales volume will decline. Conversely, you should sell more of an item when you lower its price.

First let’s think about all the people in the U.S. who are about to go crazy for the big pre-Christmas Black Friday sales event. As is tradition, businesses lower prices to attract hordes of eager buyers.

But Charlie Munger, Warren Buffett’s long-time partner and pundit at Berkshire Hathaway posed a tricky question.  He asked for instances when the reverse was true.  That is, when does raising prices lead to increased sales volumes?

Pause for a moment and give it a thought.

Veblen goods  is a good example.  They are luxury products that act as status symbols.  Their high price forms a big part of their attraction for people who want to flaunt their wealth and signal their “quality” to others.  Items such as designer handbags, jewellery, or even the latest cellphones come to mind as well.

But a more humorous example was provided by the quirky people behind the saucy game Cards Against Humanity.  They’ve been sticking mud in the eyes of economists for years with a series of Black Friday “sales”. Several years ago they decided to raise the price of their products by $5 on Black Friday.  They proudly announced the higher prices and the fact that the prices would fall back to normal after the “sale.”  The counter-intuitive bit of marketing actually boosted sales for the period and then, as promised, prices went back down.

But they didn’t stop there.  The specials continued over the years.  For instance, one year they sold bullshit for $6 a box and shovelled a lot of it out the door.  If you’re into that sort of thing, you can watch ‘unboxing’ videos of the tastefully designed packages (and their rather less tasteful contents) on YouTube.

On another occasion they held a “give us $5 and get nothing in return” sale.  They collected over $70,000 doing so and gave it to their employees.  You can examine a list of what the employees said they bought but booze and game consoles were popular.

Last year, in a feat of Keynesian economics, they dug a hole in a field and livestreamed the process.  The dig continued as long as people gave them money.  The hole was filled in when the money stopped flowing in.  Think of the economic multiplier provided by the largely pointless exercise!

They got a little more political this year and launched an anti-construction offering, which has already sold out. Which is all to say that it can help when a business thinks outside of the box – particularly when the box is full of bullshit.

Investors can also benefit from a little creative thinking, so let’s get back to mixing up portfolio strategies, to good effect. As promised, it’s now time to catch up with the Climbing CATS portfolio that brings together the value and momentum investing solitudes.

The Climbing CATS

The Climbing CATS strategy is based on a momentum plus value combination.  It starts with reasonably-sized Canadian firms and then focuses in on value stocks.  Call them Cheap And Thrifty Stocks, or CATS, if you will.  But it also looks for firms with strong relative momentum that have climbed higher in recent times.  Both value and momentum have worked well in the past.

More specifically, when it comes to size we start with a list of about 200 of the largest stocks that trade on the TSX.  We then narrow down the search to stocks that have low-to-moderate price-to-earnings ratios.  Finally, we pick stocks that have fared the best over the last 12 months.

The current list of Climbing CATS is shown in the table below.  It represents a starting point for those who want to put some money to work and is best suited for more aggressive and experienced investors.  Investors should aim to hold the CATS for a year.

Notes: Price: Closing price per share; P/E: Price to earnings ratio; Total Return: The total return generated by the stock over the last year; Dividend Yield: Expected-annual-dividend divided by price, expressed as a percentage; P/B: Price to Book Value Ratio; Earnings Yield: Earnings divided by Price, expressed as a percentage

As always, do your own due diligence before buying any stock, including those featured here. Make sure its situation hasn’t changed in some important way, read the latest press releases and regulatory filings and take special care with stocks that trade infrequently.  Remember, stocks can be risky.  So, be careful out there. (Norm may own shares of some, or all, of the stocks mentioned here.)