Can investing in stocks with low price-to-sales ratios (PSR) produce above-average, risk-adjusted rates of return? The evidence from a sample of NYSE and AMEX stocks over the 1976–84 period indicates that low PSR stocks exhibit both higher absolute returns and risk and produce superior performance compared with higher PSR stocks as well as with an equally weighted market portfolio of comparable risk. Furthermore, the PSR screen seems to work even on companies that are losing money.
However, low price-earnings ratio (PER) stocks dominate low PSR stocks on both an absolute and risk-adjusted basis. The PER strategy also appears to offer better discrimination between potential winners and losers. Moreover, the relative performance of low PER stocks seems to be more consistent over different time periods than that of low PSR stocks; the low PER portfolios produced a higher return than the low PSR portfolios in 68 per cent of the quarters studied.
The PSR and PER strategies appear to be interrelated, but there are significant differences between the two. Low PER companies tend to be small firms with lower prices per share and fewer shares outstanding than high PER companies. This small firm effect is even stronger in the PSR companies. Low PSR companies are smaller and generate more sales dollars for their size than low PER companies.