In the three years prior to the selection date, companies in the lowest quintile of price/book value experienced a significant decline in earnings, and companies in the highest quintile of price/book value experienced a significant increase in earnings. In the fourth year after the date of selection the companies with the lowest price/book value experienced a larger percentage increase in earnings (+24.4%) than the companies with the highest price/book value whose earnings increased 8.2%. The authors suggest that earnings are "mean reverting" at the extremes; i.e. that significant declines in earnings are followed by significant earnings increases and that significant earnings increases are followed by slower rates of increase or declines.


Tweedy, Browne examined the historical returns from stocks which were priced low in relation to book value and from stocks which were selling at 66% or less of net current asset value. All 7,000 public companies in the Compustat database, including the Research File of companies which had been acquired, merged or declared bankrupt subsequent to an assumed historical selection date, were screened to identify those companies with a market capitalization of at least $1 million and a stock market price of no more than 140% of book value on April 30 in each of 1970 through 1981. For each of these twelve portfolio formation dates, the investment returns for all stocks were computed for 6 months, 1 year, 2 years and 3 years after each selection date. These stocks were ranked according to price in relation to book value and sorted into nine price/book value groups and one group comprised of stocks selling at less than 66% of net current asset value. The average results for all stocks in each of the ten groups were compared to the results of the S&P 500 over each of the holding periods. A total of 1,820 companies were culled from the Compustat database. The results of this price/book value and net current asset value study are presented in Table 4.

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