Beginning with Beta and then moving on to the Size factor, we now complete the Fama-French Three-Factor model with Value. As mentioned before, Size is easy to understand and Value is not all that difficult once one has a definition of what Value means in the investing world.
One major metric that defines Value stocks is Price/Book/Sales. To expand, what is the price of the stock compared to the underlying value of all the company assets? It is not unusual to see the ratio reversed so you might read Book/Price or Book to Market (BtM). If one takes all stocks available for purchase and divides them up between Value, Core and Growth, Value stocks are the 30% with the lowest Price/Book value. Growth stocks are the 30% with the highest Price/Book and the remaining 40% are Core stocks. These percentages may vary from company to company, but this gives one an idea of the dividing points.
If one is looking for an ETF that combines the Size and Value combination, we look for small-cap value ETFs such as VBR and IJS. There are others from State Street and Schwab. We will examine those later when the Factor Portfolio is constructed.
For a full explanation of the Factors discussed in this series of blogs, purchase the Berkin & Swedroe book, Your Complete Guide to Factor-Based Investing.” This is not a book for beginning investors. For those, go to my Top Ten Investment Books.
Why focus on Value or “beaten down” stocks? Over the long haul, Value stocks tend to outperform Growth stocks. In addition, small-cap stocks (Size) tend to outperform large-cap stocks. This is exactly why one looks for these market factors or market anomalies.