During his recent interview with Tobias, Tim Melvin, who is a 31 year veteran of the financial services industry, discusses the two places in the market where book value is still the best metric. Here’s an excerpt from the interview:
Tobias Carlisle: That’s spoken like a true deep value investor. The metric that you talked about then, it’s getting a lot of bad press lately, even though I think that that’s really the only metric that you can use for financials, is price to book value. Talk us through how you value one of these stocks.
Tim Melvin: It’s price to tangible book value. We only use tangible book value, by the way. I don’t really care about the intangibles in banks. They don’t amortize the same way they might in a tech company. Add up the loans, subtract out the deposits, divide by the number of shares, what do we got left? That’s what I want to pay for the bank. Richard Lashley at PL Capital runs a cost take out model of what it might be worth in a take out. I think it’s pretty cool and I play around with it. My core metric is price to tangible book.
Tim Melvin: Let me just digress for one second here. I know price to book value has become a very unpopular metric. The key saying is it doesn’t work. Here’s the truth. It still works in financials and it works very well. It also works on smaller stocks. We run models. We run them once a week. We back test them rigorously. One of the best performing models over the last year is a very small cap, hundred million and under, trading below book value with a strong balance sheet. Now, if I’m running a $5 billion fund, I can’t do anything with that. I can’t buy any of those companies. Unfortunately, I’m not running $5 billion. I can pile into those things and still do real well. The problem with price to book value is not that it doesn’t work, it’s that it doesn’t scale.
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