Greenblatt's "magic formula"

[pms163]

Has anyone read Greenblatt's "little book" about his so-called magic formula?

Is this a "get rich quick" scheme that better belongs in the "Other" subforum?

Here's a URL: http://www.magicformulainvesting.com

 

[LovesLife]

I saw him on WSJ Weekend this morning. IIRC, he recommends holding 30 stocks per year each year. Bet the trading costs kill any profits.

 

[pms163]

You can limit the trading costs by using something like foliofn. For example, if you're a member of Pen Fed (as I know some here are -- to take advantage of high interest rates on CDs), you can do all your "magic formula" trading (about 5 trades per month, including buys and sells) for $60 per year if your balance is less than $15,000 and for $200 per year if you're over $15,000 (which hopefully will be the case!). See http://www.foliofn.com/penfed/pricing.jsp.

So the worst case is probably if you have $15,001, in which case your trading costs would be 200/15001 = 1.3% per year. If you are magic-formularizing $150,000, the trading will set you back only 0.13% per year. So I don't think the trading costs would be a major issue in most cases.

But I think the tax implications of selling everything once a year put quite a dampener on this approach. Unless you do it in a tax-deferred or Roth IRA account.

 

[BigMoneyJim]

Without looking at the link and not having heard of this, the words "formula" and especially "magic" raise the eyebrows. Wild guess: datamining-based strategy.

Even if you can keep trading costs as low as you say, that's the same or slighly less than many index funds. Then there's the bid/ask spread.

 

[pms163]

He just looks for companies that are simultaneously "good" (quantified by high return on capital) and that are "cheap" (quantified by something similar to low price-to-earnings ratio).

The bid-ask spread issue may be significant because these "cheap" stocks are generally cheap because they're unpopular, which means thinly traded, which means higher-than-typical bid-ask spreads.

 

[Nords]

He just looks for companies that are simultaneously "good" (quantified by high return on capital) and that are "cheap" (quantified by something similar to low price-to-earnings ratio).

The bid-ask spread issue may be significant because these "cheap" stocks are generally cheap because they're unpopular, which means thinly traded, which means higher-than-typical bid-ask spreads.

Let's use TH's gopher prairie dog again.

First, if this magic-formula method is so darn good, then why is the author (1) writing a book and (2) selling it? If the formula works then he'd be too busy making money (or spending it) to bother with the labor of crafting deathless prose. And if he really is making a ton of money, he could satisfy his ego just as elegantly by giving the book away. He could hand his first copies to Bill Miller, George Soros, Warren Buffett, Jim Cramer, Maria Bartiromo, Abby Joseph Cohen, Peter Lynch, William O'Neill, Robert Kiyosaki, and the rest of the investing pantheon.

Second, if this magic formula is so good, why isn't it subject to peer review in an accredited journal? All he has to do is lay out the process (without vague language like "magic formula" and "adjustments") and let the academic community form a concensus. If they can't independently arrive at the same results that he claims to have achieved, then we can send him over to the cold-fusion lab to help those guys.

Third, why do you need a "magic formula" if you're buying value companies? Just buy the darn value companies (via Vanguard or an ETF) and get on with the rest of your life, liberty, & pursuit of happiness. You'll probably beat the S&P500 (although that's not too hard) and you might even beat the return of the total market. Most investing disasters occur when taking a plan that's "good enough" and trying to make it "perfect".

The answers to your original questions are "No, I'm not paying money to read that stuff" and "Yes, it's a get-rich-quick scheme that's optimized for the author's net worth, not ours".

 

[mb]

Haven't read it but this does a good job of summarizing my opinion of this type of book:

The answers to your original questions are "No, I'm not paying money to read that stuff" and "Yes, it's a get-rich-quick scheme that's optimized for the author's net worth, not ours".

Also if someone really does find a "magic formula" and it then becomes widely available them market participants will trade based on that formula and if that happen enough it will change the dynamics of how the market works to the point that it will invalidate the formula.

MB

 

[JPatrick]

I've fiddled with his screener a little, and it seems to do as advertised.  As for the rest of the magic, I'm not so sure.
As has already been mentioned, the name 'magic formula" is by itself a deal breaker.  I've heard it will grow hair if you rub it on your head.

Years ago one of the best places in Hong Kong (or in the world) to buy sound equipment was called "fair and square sound"
The guy did a killer business, but I told him if he used that name in the states not a soul would come in and the BBB would probably investigate him.
He just smiled and said yes.