Justadrone: Major Insight?

The only other Magic Formula blog that read on a regular basis is MG's justadrone.blogspot.com and I'd like to point to that blog once again. The blog is well written and better proof written than my work and the author has a great sense of humor. However, that is not why I am linking there.

MG has put together about a years worth of MFI data consisting of 276 companies that have appeared on the MFI screen. To my recollection this is the first real analysis of the MFI stock as a whole since Greenblatt published "The Little Book that Beats the Market." MG has shared the database with me and I hope to explore it see if there are any early indicators on ways to improve (or at least not screw-up) the fantastic returns that the back test provided.

Any way here is a link and a quote:

The 276 stocks in aggregate, if you simply bought and held them per the MFI rules, would be up 11.9%. If you implemented the rule to sell when they dropped by 20%, you would only be up 7.3% (and with about the same amount of overall volatility).

I'd also like to take this opportunity to link to Value Investing News so that you can share any great value invsting article that you come across with the rest of the community.

Motley Fool: Diligence, Diversity and Dilution

I came across this excellent post on due diligence, Piotroski, and the Magic Formula. Here is a link and an excerpt:

When you do your DD and start cherry picking from the list, I think you're more likely to eliminate the stocks that will end up being really huge winners than you are to pick them. That's because these are the stocks that are going to be the most difficult to figure out.

As always, I'm interested in your thoughts,

Nick

InvestoBlog: Jamie's [MFI] Experiment in LEAPs

Most readers of my blog have probably read Greenblatt's The Little Book That Beats The Market, but I'm not sure how many of you have read his earlier book How To Be A Stock Market Genius. In many ways I like his first book better, for example its focus on special situations is of a particular interest to me. One such situation is the use of LEAPs (Options with longer expirations) to simulate Stub stocks. Jamie has conducted a bit of research using the MFI screen and LEAPs; though not statistically significant, I found her research interesting. Here is a link and an excerpt:

I wondered a while back whether buying LEAPs would be a way to leverage the MFI for greater gains. On August 8, I recorded the 38 MFI stocks that had options available. For each stock, I recorded the close price, as well as the close price of Jan. '07, '08 and '09 LEAPs with a strike price just below the close price of the security.

I'm interested in your thoughts and experiences on LEAPs in general and on their application to the Magic Formula. I have used them with great success on Investopedia's simulator game, but I have never used them in real life. Beware of the bid/ask spreads as it can get very pricey!

The Magic Formula Works!

If you are a long time reader of my humble blog then you remember when I used to post updates on two Magic Formula Portfolios. Unfortunately, my friend purchased a house and was unable to make MFI purchases beyond his initial 7 picks. In fact he even liquidated a couple of his positions to put a down payment on the home. Anyway, he is batting 1.000 as he has made money on all of his purchases. As of today his MFI portfolio is up 30%. That is right he achieved the 30% that Joel Greenblatt all but promised to his faithful followers. Who knows what subsequent purchases would have been, but that is immaterial. Here are his results dividends are not included:

One year Anniversary!!

Scroll down for the buy/sell update

In my last post I promised to discuss what I have learned over the past year. I think I made some significant mistakes -mistakes that I'd like to help you avoid. Let's get started shall we?

My mistakes can be classified in two ways:

1. Deviating from the Magic Formula
2. See mistake #1

Hmmn. The best advice I can give you is to not deviate from the formula. Why? It would be very arrogant of me to say that I can improve on Mr. Greenblatt's success; however, that is not why you're reading this. Is it? My real mistakes in order of importance:

1. My purchases were not evenly distributed throughout the year and I made too few purchases. Please observe the chart to see my purchase and sell distribution. This mistake was made for several reasons none of which I think are relevant to the Magic Formula so I won't discuss them at this time. Why the liquidation in October? See mistake number 2.











2. Stop Limit Orders. A Failure and a Success?

Follow the preceding link for an example of what I did. One saved me some money and I lost out on future returns on the rest of them. Net opportunity cost? 1.5% of my portfolio -no I'm not going to annualize that for you. Worse yet. That technique never did sit well with my philosophy. To think that I initially considered the Magic Formula a trading philosophy due to the short 1 year holding period. I liquidated positions I held for less than 6 months in some cases. I should be forced to turn in my copy of the Intelligent Investor as well as The Little Book That Beats The Market. I pruned the the flowers to let the weeds grow. My fear of losing what I had gained out-weighed my fear of my laggards under performing. This is a common mistake, I suggest that you don't make it. Sell your winners on the 366th day and your losers on 364.

3. Doubling Down. I still think that this might be a valuable technique and unlike #2 is one that I have used in the past. This increases the volatility of your portfolio. I do not know the real cost or benefit of this technique to my returns, because I "doubled" instead of purchasing a different MFI company. I made very good gains on two of my doubles; both TGIS and MTEX were big winners. I made a bit in RAIL and lost a ton on FDG. I don't consider ALDA a double down situation because I didn't buy it after large drops, but if you think it is in the same category you should know that I got crushed! If I had passed on doubling up and bought PNCL then we would definitely say that this technique has got to go, but there are other dogs that I might have purchase that would make this technique look great. I think the key here is to wait for a 30-50% drop in price that you feel is market, not fundamentally, driven and then buy in. Only time will tell.

Unfortunately, I am running short on time so that is as far in depth as I am able to go. I have made some new purchases and sold two positions on schedule. I sold CATT and CHKE and I must say that I regret selling CHKE because it a well run enterprise with solid future, but I had to sell to stay on schedule. Frankly, I wish I sold CATT when it fell off the list. Anyway here are my new purchases:

1/9 TRLG
1/10 PPD
1/11 OVTI
I have two unfilled orders EGY and VPHM

I plan to hold 20 Magic Formula companies and will make purchases in Jan, Apr, July, Oct.

Your comments are always welcome!