Magic Formula

Slide 1: Using the “Magic Formula” by Larry Holmes

Slide 2: Disclaimer This is not personal investment advice or a recommendation to buy or sell any particular security and past performance in not necessarily an indication of future performance

Slide 3: Disclaimer All personal investment decisions should be made in the context of your own financial planning goals and tolerance for risk

Slide 4: Disclaimer I am not affiliated with Joel Greenblatt or his firm and I don’t benefit financially from the sale of his books

Slide 5: The Little Book That Beats The Market by Joel Greenblatt • The founder and a managing partner of Gotham Capital • Average annual returns of over 40% for over 20 years

Slide 6: There’s a crazy guy named Mr. Market

Slide 7: “… if you stick to buying good companies … and to buying those companies only at bargain prices … you can end up systematically buying many of the good companies that crazy Mr. Market has decided to literally give away.” -- The Little Book That Beats The Market (p. 45)

Slide 8: Question: What’s a good business?

Slide 9: Question: What’s a good business? Answer: One with a high return on capital

Slide 10: Question: What’s a bargain price?

Slide 11: Question: What’s a bargain price? Answer: A business with a high earnings yield

Slide 12: Okay, so what’s the Magic Formula?

Slide 13: Return on Capital EBIT / (Net Working Capital + Net Fixed Assets)

Slide 14: Earnings Yield EBIT / Enterprise Value

Slide 15: “… what would happen if we decided to only buy shares in good businesses (ones with high returns on capital) but only when they were available at bargain prices (priced to give us a high earnings yield)?”

Slide 16: “What would happen? Well, I’ll tell you what would happen… We would make a lot of money!” -- The Little Book That Beats The Market (p. 51)

Slide 17: From 1988-2004, “owning a portfolio of approximately 30 stocks that had the best combination of a high return on capital and a high earnings yield would have returned approximately 30.8 percent per year.” -- The Little Book That Beats The Market (p. 52) Note: The S&P 500 index returned 12.4 percent per year

Slide 18: Question: Why will the Magic Formula continue to work after everybody knows about it?

Slide 19: Question: Why will the Magic Formula continue to work after everybody knows about it? Answer: Because it doesn’t always work

Slide 20: “The magic formula portfolio fared poorly to the market averages in 5 out of every 12 months tested.”

Slide 21: “For full-year periods, the magic formula failed to beat the market averages once every four years.”

Slide 22: “For one out of every six periods tested, the magic formula did poorly for more than two year in a row.”

Slide 23: “During those wonderful 17 years for the magic formula, there were even some periods when the formula did worse than the overall market for three years in a row!” -- The Little Book That Beats The Market (p. 70)

Slide 24: Step 1

Slide 25: Step 2 magicformulainvesting.com

Slide 26: Step 3 Follow the instructions to get a list of the best businesses selling at a bargain price

Slide 29: Step 4 Buy five to seven of the top-ranked companies Note: Smaller accounts may want to use brokers like foliofn.com

Slide 30: Step 5 Repeat Step 4 every two to three months. After nine or ten months you should have a portfolio of 20 to 30 stocks

Slide 31: Step 6 Sell each stock after holding it for one year. Use the proceeds to buy more Magic Formula stocks according to Step 4

Slide 32: Step 7 Continue the process for many years Note: Don’t even think about evaluating performance for at least three to five years

Slide 33: Step 8 Send Joel Greenblatt a note and say thank you!