Magic Formula Investing

Overview of Magic Formula Investing
Magic Formula Investing is a technique of investment. It was defined by Joel Greenblatt. This investment technique has been significantly influenced by Value Investing and its operating rules. It is an extremely useful form of investment.

Uses of Magic Formula Investing
The Magic Formula Investing is a pretty convenient form of investment technique. It can be used by any investor regardless of his experience in the said field.

Benefits offered by Magic Formula Investing
Magic Formula Investing enables the investors to receive excellent returns from their investments. To top it the investors would not be required to face any complications that are related to a discounted cash flow analysis.

Methodology of Magic Formula Investing
In his book “The Little Book that Beats the Market” the founder of Magic Formula Investing, Joel Greenblatt, has explained the methodology of Magic Formula Investing. He advises the investors to buy stocks of companies that are amongst the 30 best companies.
Greenblatt wants the investors to purchase the inexpensive stocks from these companies.

However, the stocks should also have the following characteristics:

Higher Returns on Capital
Higher Earnings Yields

Success of Magic Formula Investing
In the book the founder of Magic Formula Investing, Joel Greenblatt, has put forward the following points to substantiate the claims of success of Magic Formula Investing made by him:

The process of Magic Formula Investing has a 96 percent success rate of having topped the investment market
The investors who have invested following the Magic Formula Investing process has received a yearly return rate of 17 percent for the last thirty years
Formula of Magic Formula Investing

The following steps make up the formula of Magic Formula Investing:

Building the lowest possible level of market capitalization
Ranking every company that is over the elected market capitalization. Factors like highest return on capital and highest earnings
yield should be considered in this instance
Leaving out the utility and financial stocks
Putting the money in the top 20 or 30 companies. This helps the investors to accumulate 2-3 profitable investment positions each month for more than a year
Leaving out the offshore business entities
Re-balancing the portfolio once every year. The comparatively unprofitable investments should be sold a day before the year ends.The more profitable investments should be traded the day after the year ends
Finding out the earnings yield provided by an investment organization
Continuing to make investments for a long-term period
Finding out the return on capital provided by an investment firm

 

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Last Updated on : 1st July 2013

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