Key Takeaways
- • Hedge Fund Alpha published a white paper on October 15, 2013 examining the "net net" count, the number of US-listed companies trading below net working capital minus all liabilities, as a market valuation indicator.
- • The authors, associated with Graham Theodor & Co., argue the net-net count is an under-appreciated gauge of market over- or under-valuation relative to traditional metrics such as trailing median P/E, the Q ratio and the dividend-price ratio.
- • The study's stated scope is the historical relationship between net-net counts and market valuation from 1929 to 2011, with conclusions drawn for the indicator's utility in the present.
- • The paper is framed as a complement to Warren Buffett's preferred measure of total market capitalization (Wilshire 5000) relative to US GNP.
Summary
Hedge Fund Alpha published a white paper titled "Net Nets White Paper On Implications & Conclusions" on October 15, 2013, presenting the net-net count as a valuation indicator that the authors believe most market participants overlook. A net net is defined in the paper as a company whose market value is below its net working capital minus all liabilities, with property and other assets ignored entirely. The paper argues that the number of such companies on domestic US markets at any given time can signal whether the broader market is overvalued or undervalued, an idea rooted in Benjamin Graham's observation that one could gauge market levels by counting issues selling below working capital value.
The author notes that modern valuation indicators include the trailing median P/E ratio, the Q ratio (market price relative to replacement cost) and the dividend-price ratio. The paper contends that the net-net count is largely absent from this set of tools. The author, writing on behalf of Graham Theodor & Co., states a skepticism toward academic investing research but expresses hope that this study will prove a rare useful contribution.
The author identifies his long-favored valuation metric as the Wilshire 5000 Total Market Index capitalization compared with US Gross National Product, which Warren Buffett once described as "probably the best single measure of where valuations stand at any given moment." The net-net count is presented as a secondary measure. The paper's stated objective is to examine the implications of this indicator for market over- and under-valuation across 1929 to 2011 and to draw conclusions about its usefulness today. The source is a draft by the Hedge Fund Alpha team referencing an SSRN working paper dated September 24, 2013, by Tonca and Theodor. The available text is an introduction, so the full quantitative findings are not reflected here.
The author notes that modern valuation indicators include the trailing median P/E ratio, the Q ratio (market price relative to replacement cost) and the dividend-price ratio. The paper contends that the net-net count is largely absent from this set of tools. The author, writing on behalf of Graham Theodor & Co., states a skepticism toward academic investing research but expresses hope that this study will prove a rare useful contribution.
The author identifies his long-favored valuation metric as the Wilshire 5000 Total Market Index capitalization compared with US Gross National Product, which Warren Buffett once described as "probably the best single measure of where valuations stand at any given moment." The net-net count is presented as a secondary measure. The paper's stated objective is to examine the implications of this indicator for market over- and under-valuation across 1929 to 2011 and to draw conclusions about its usefulness today. The source is a draft by the Hedge Fund Alpha team referencing an SSRN working paper dated September 24, 2013, by Tonca and Theodor. The available text is an introduction, so the full quantitative findings are not reflected here.
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