This is an experimental procedure based on fundamentals. Since, there isn't much option to backtest these methodologies, I am trying to create a trade and then measure performance over long period of time.
Magic Formula investing method is invented by Joel Greenblatt. In a nutshell strategy does following:
Rank all the stocks based on Return on Capital
Rank all the stocks based on Earning Yield
Add these ranks to come up with a combined rank.
Invest equally in first 10 stoscks of combined. Rebalance yearly.
Concept here is, earnings yield represents value whereas return on capital represents quality. Combining these two to get the stocks which have best of both.
Basic Filtering of Stocks: Basic filtering of stocks is done based on the methods as mentioned in quality screen indicator: https://www.tradingview.com/script/vdzfb2WA-Quality-Screen/ Since the financial data is taken from yahoo for generating report, some of the quality parameters are not included and there can be slight changes in the fundamental values present in tradingview. No other initial filtering is applied.
Derive ranks on several Value, Profitability, Growth and Cashflow parameters:
Value Parameters : P/E, P/S, P/B, P/C, P/FCF, PE-Forwarding, PEG Ratio
Growth and Momentum Parameters : Quarterly, Half Yearly and Yearly Performance, Upside Calculated from analyst valuation
Cashflow Parameters : Quick Ratio, Current Ratio, Debt to Equity, Long term Debt to Equity, Debt to Assets, Long term debt to assets.
Derive composite rank for Value, Profitability, Growth and Cashflow based on individual ranks: For example, Add up all ranks of value parameter to come up with Value Score. And then sort value score in ascending order to get value rank
Derive combination ranks such as value/growth rank, value/profitability rank etc by similar method: Also create combined rank which considers all 4 ranks - value, profitability, growth and cashflow.
Sort the values based on combined rank to get top value/quality stocks - which represents lowest score.
Final stock selection consideration : Instead of picking first 10 stocks, I have picked stocks from different sectors thus sacrificing bit of Magic Formula edge. This is to avoid high concentration on single sector.
Final list of stocks selected:
SBSW - Basic Materials (Gold) VALE - Basic Materials (Industrial Metals and Mining) GOOG - Communication Services (Internet and Information) CROX - Consumer Cyclical (Footwear and Accessories) ENVA - Financial (Credit Services) EVR - Financial (Capital Markets) UTHR - Healthcare (Biotechnology) LPX - Industrial (Building Products and Equipment) TER - Technology (Semicondoctor Equipment & Materials) AMAT - Technology (Semicondoctor Equipment & Materials)
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June 11th 2021
Magic Number Strategy Combo: 3343 SPX : 4236
Aug 11th 2021
Magic Number Strategy Combo: 3630 => up 8.6% SPX : 4425 => up 4.46%
Will keep track of this
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Tilll date:
SPX - 4529 - Up 7% MagicNumber - 3815 - Up 14%
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Yill date SPX - 4698 - Up 10.9% MagicNumber - 3891 - up 16.39%
Ranking is simple. For example, if you want PE rank, sort all companies based on PE and rank them from lowest to highest
Value rank consists of all Value parameters such as PE, PS, PFCF etc.
Profitability rank consists of ranks of Gross Profit, Net Profit etc.
And so on.
ikrasnyanskiy123
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@HeWhoMustNotBeNamed, got it, thanks for explanation! Got interested in this post because of crocs and google, as they are my favourites since like march 2021.
JackHertz
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Any update to this strategy? Thank you.
Trendoscope
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@JackHertz, The scale got changed due to stock split etc. Overall - comparison to SPY, NDX, it is still ahead though, there had been dip. But, the strategy is that we need to recalculate and rebalance every 6 months to 1 year.
JackHertz
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@HeWhoMustNotBeNamed, Thanks for the quick update, mate :) Really appreciate it.