Just over six years ago I began my noble experiment: following Joel Greenblatt’s Magic Formula strategy laid on in his bestselling book “The Little Book that Beats the Market”. My enthusiasm waned slowly but steadily during those years as the outperformance the Book touts never happened. The ride was not tumultuous – my portfolio consistently underperformed. Here’s where it ends up: My total portfolio is now (as of April 11, 2023) valued at $73,810, or a total gain of just under 23% on my original investment of $60,052. Well, I didn’t lose money, but during that same time the S&P 500 (SPY) is up over 77% not including dividends. Here are the stocks still in my portfolio:
If you have an eye for detail you may notice that I have only 29 stocks here. Where’s the 30th? And what’s with over $2,000 in cash? One of the many facets of following this formula is that you’re supposed to invest equal amounts in each stock. 1/30 of the total amount of the portfolio is around $2,450. When I sold shares of Korn Ferry (KFY) on 3/29/23, which was a loser, I didn’t have enough dough in the account to make up that last stock. In fact, I’ve been running one stock behind for a while now. The next sale I’ll make very soon will be Sturm Ruger (RGR), also a loser. If I were still following the formula, after selling RGR I’d have enough to make another purchase but I’d still be one stock behind until, hopefully, I’d be able to catch up in June with the sale of Assertio (ASRT) which has been a big winner.
This balancing of the portfolio is just one of many small factors of following this strategy. I’ve described many such nuances over the years if you care to read my previous posts. That’s fine; I don’t mind the overhead. If this strategy actually worked these types of things would be a small price to pay. The problem is it’s not working.
Why I’m Bailing out Now
In Greenblatt’s Book, he claims that in his back-testing, every one of his test portfolios out-performed the S&P 500 over five years, so I wanted to give the strategy at least that long. And now after six years of both bull and bear markets, I want to give some final thoughts on the experience. I’ve already touched on most of these things in my blog posts over the years.
I simply don’t trust that Greenblatt’s formula works, even over the long term. Joel Greenblatt co-runs Gotham Funds. You’d think that if he believed in his own strategy he’d have one fund that follows the Formula described in his book. I believe he used to but it was discontinued. It’s also suspicious to me how Greenblatt never states what he did in situations such as when a stock that’s due for sale is still on the screener as one of the top 30 stocks. He says we must decide whether to buy a different one or retain that stock, but he never writes what he did when computing the returns reported in his book. Many such details are absent in the book, which throws his claims into question. I’ve had quite a few people write to me over the last six years, and some were quite knowledgeable about The Book. Not one reader in that time has claimed to have beaten the market following Greenblatt’s Magic Formula strategy.
I’m tired of buying shares of junk companies, and companies I hate. Since Greenblatt’s book isn’t clear on how to pick stocks using his screener – he just says to pick between 20 and 30 – I at first would do a tiny amount of research before investing, and avoid stocks like for-profit universities and gun manufacturers whose business I don’t really like. Then I realized that my own biases might be contributing to the portfolio’s under-performance, so I decided to randomly choose my MF stocks using Greenblatt’s screener. This didn’t help matters. I bought a lot of shares of doomed biotech companies, Sturm and Ruger, Tupperware, Perdoceo (which I believe is Spanish for “lose everything”) while people who simply bought an index fund did way better.
Ok, I’m done for now. There will be more articles here related to the Magic Formula, and other formulas. Take care, do good work, and keep in touch!
andrew
i have enjoyed reading your experience. I came across your blog a few years ago. Your understandably done, but if you want to do something like this again you might be interestedi checking out https://acquirersmultiple.com/. thanks!
Hello Andrea,
You’re not the first reader to mention that book. I do plan to read it but I’m a little wary because I’ve read about it a bit, and I think one way it’s similar is that the author has his own screener that he encourages everyone to use, right? I decided I’m not going to follow a strategy like that again where you’re dependent on somebody’s proprietary screener, where they sort of tell you how it works and claim that if you use it you’ll see huge returns. But I’m curious enough that I’ll at least read it.
Thanks!
andrew
Really enjoyed following your blog Andrew and your reasons for calling it a day are understandable.
It’s been about a year and a half since I started my Magic Formula experiment and share a lot of your views in this post.
Looking forward to comparing results in Y5!
Hi Quant,
Sorry for the lateness of my reply – I just noticed this. Yes, let me know how it goes for you, and please let me know how your approach differs from mine.
Take care,
andrew
Thank you again Andrew for this update.
Very understandable that you are going to ditch the magic formula.
Thank you for sharing your adventure with us,
I am curious to hear what kind of strategy you are going to follow next!
(Why not just go for ETF strategy and follow S&P 500, Nasdaq 100 indexes. ?)
Keep up the good work! Cheers!
Hi Peter,
My first investing strategy, going back to the late ’90s, is exactly what you describe. I started with Vanguard’s S&P 500 index fund, and I ended up with Vanguard’s VTSAX, which I highly recommend. Indexing has been the core for me, and still is, especially in the 401k. Then I got greedy during the Great Recession, which was a good time to be greedy. Thanks to Motley Fool I started investing in individual stocks. That evolved into dividend Growth Investing, which I’ve been doing for the last 8 years or so, investing in stable companies that make money, pay growing dividends, and seem to be undervalued. But I’m always on the lookout for more info and new schemes. I will be posting more here, though I certainly will not be starting another Magic Formula Portfolio!
Thanks for reading!
andrew
An interesting read. One thing I don’t understand however, did you simply buy 30 stocks at the beginning of each year or did you purchase 2-3 stocks per month, or 5-7 stocks per quarter as recommended by Greenblatt?
Hi David,
I spread it out over months. Also, it’s inevitable that once in a while a company you’ve invested in will get bought during the year (though Greenblatt never mentions this, or what to do about it), so you’ll end up replacing some of the stocks at unexpected times.
Thanks,
andrew
Hey Andrew,
It’s interesting to see someone take a leap of faith and follow Greenblatt’s MF. I also read his book but decided not to follow his MF strategy, only because it makes more sense to me that one should invest in what he understands and over time he/she should do pretty well in the long run vs the avg market returns. In Mohnish Pabrai’s book The Dhando Investor also mentions Greenblatt’s MF but i think towards the end of the book he stated that it may instead be used as a one of the many sources to research potential companies worth investing in. The fact that you sticked to the MF for 6 years i think it proves you have the patience and consistency mindset of being a value investor.
All the best!
Hi Joe,
That’s funny that you write “it’s interesting to see someone take a leap of faith and follow Greenblatt’s MF”, because after I read the book I thought, “how could anybody read this book and not try this?” I guess there’s a sucker born every minute. Thanks for the compliment on sticking to the MF for over 6 years. I did wrestle with the decision, but I had other ideas for deploying this capital and I kept asking myself, “how long am I going to give this? 10 years? 15?
take care,
andrew
Hey Andrew,
Just wanted to say thanks for doing your blog for so long. It’s been an interesting read, and I appreciate your frankness and thoroughness.
I think your blog is a valuable thing; there aren’t many things like this that document following a strategy so thoroughly.
Personally, I think the Magic Formula (and other formula-driven strategies like it) can work for a while, but then the market/economy changes, and it stops working. That’s what happens in the stock market. It just so happened that starting around 2013-2015, we had a market where big companies with market power (especially the tech companies, like the FANGAM stocks) really started to dominate. So, instead of following the Magic Formula, if someone had the foresight to switch to a market-power FANGAM strategy, that would have been the one that beat the market.
So, the market changed, and the Magic Formula stopped working. I also suspect it may work again at some point in the future, but who knows when that will be.
Anyway, thanks for the blog.
Hi Marshall,
That means a lot to me. The reason I started this is because, even though the Little Book was a big best-seller, I couldn’t find any blogs or sites where people gave testimonials on their real-world experience with the MF. That should have tipped me off, since the Book had already been out for twelve years or so! By the way, a number of readers have recommended another strategy called the Acquirer’s Multiple. I wonder if there are any sites like mine for that scam, I mean strategy!
Thanks for reading! Please check back – I’m going to try to do something else with this blog.
That’s interesting, Andrew, and thank for toughing it out for 6 years. It’s really frustrating you underperformed over the 5+ year period that Greenblatt referenced.
Was “this time different?” Hard to say…
What’s interesting to me, just picking a date at random… if you started from, say, Portfolio Update 12/13/2020 ($59,636.80 portfolio value; SPY $366.3) to your last Final Portfolio Update! 04/17/2023… by my math your Portfolio ($73,810.41) would’ve gained 24% vs 13% for the SPY ($413.94, not including dividends.
This is just one date vs another though.
Hi Riley,
I’m sure there were periods where my Portfolio outperformed the S&P during that 6+ years, but what matters is the total performance over time. Maybe I was just really unlucky, but I don’t think so. If you look at the stocks that show up on MagicFormulaInvesting.com, you’ll notice many of the same ones stay on there year after year – way more stickiness than I would have thought. Stock prices fluctuate wildly every trading day, yet companies like HP and Perdoceo, and GoPro, etc. stay on the screener for years. My point is that maybe I was just unlucky, but I’d bet that most people that try this strategy are going to have a similar experience because they’re going to be buying the same stocks that I bought.
Thanks for commenting!
andrew
Hi,
I did some experiments with MF myself, few years ago. I used monthly rebalancing and a portfolio of less than 20 stocks (I think it was even closer to 10-12 than 20) and must say that the results were NOT satisfactory… unless I introduced few improvements that improved the performance dramatically:
1) I added 6-month momentum criteria (bought only uptrending stocks)
2) I added Stop Loss criteria (around 10-15%)
You may give it a try!
Regards
Hi Bart,
Those are some interesting changes, especially the stop loss. You’re not the first person to suggest changes to the MF to try to improve it. Usually the improvements involve excluding certain stocks on the screener, like pharmaceuticals. I especially like your stop loss idea. Please check back in and give us an update on how your improvements are working!
Take care,
andrew
I noticed that most of your stock holdings (MF recommendations) are biotech sector. I think the biotech sector has been beaten to death – atleast the leveraged fund called LABU – this has been beaten to death by more than 99% from its peak today. Hence the entire biotech and may be a bit of pharma has not done well lately.
Hello Desidin,
You’re not the first to mention the preponderance of biotech and pharma stocks and how they are often horrible investments. I thought of excluding those. But you see, if I did that, and I still did not beat the market (as I’m pretty sure I wouldn’t) then everybody would write to me and say “Aha! the reason your portfolio is not Beating the Market is because you deviated from Greenblatt’s strategy!” And I wouldn’t be able to prove them wrong.
Thanks for reading!
Hi Andrew,
Thank you for sharing your experience, I truly appreciate it. A couple of years ago, I remember being super excited after reading the book. I was able to restrain my excitement thanks to your blog and then digging a bit deeper. Validea’s result doesn’t look much better. https://ca.validea.com/joel-greenblatt
I’m also cautious about Acquirer’s Multiple. The book is again great and you can track the results by the ETF ticker ZIG. The results are holding up much better than the magic formula but it still makes me ask a lot of questions. Is this one also going to tank like the magic formula? Did magic formula tank because it was relatively easy to apply? Or did so many people apply it because of the book’s popularity and it stopped working?
Thank you once again…
Hi Sabo! Sorry for the late reply. I forgot about this damn site! Yes, I too remember the excitement that slowly faded, then morphed into frustration, then disappointment, then rage. I still haven’t read the Acquirer’s Multiple, and it’s still on my list, but I wouldn’t follow any strategy again unless I can run it myself without depending on somebody else’s product, even if free. I doubt that the strategy ever really worked. First of all, there are a lot of little details to following this strategy, and I doubt that back testing takes them all into account. Remember, we never actually saw the back testing data or methodology. I also doubt that many people really had the patience to follow the strategy faithfully; it’s not as easy to apply as it first seems.
Take care,
andrew
Thanks for your hard work (and financial sacrifices) for sticking with this for so long. I too read the book and was intrigued as to how it had worked since the second edition. I found an article on “seeking alpha” which backtested from 2008 – 2019, and found that it did abismally Vs. The SNP 500. He also linked your blog which is how I found you.
I think the author wrote the book in good faith, his backtested results are at least factually correct. Unfortunately, the market changed, and will continue to change in a million different ways, all at once. Unknowing and impossible to predict. In Hindsight it looks obvious, but foresight is a maze.
This whole episode for me has taught me the limits of backtesting (and also circumstances where backtesting is useful) . Finding strategies that have worked in the past and copy/pasting them into the future just dosen’t work. Mostly because every other market participant is constantly running their own hypothesis through backtests and updating their investment strategies, all of which affect the market. Followed by millions of others updating their own hypothesis and backtesting it again (rinse and repeat) Even if it does work for a short while your “edge” will quickly be diluted away by a million other participants. In hindsight it seems ridiculous that I even thought this was possible. The authors justification that the reason why it will continue to work is because it dosen’t work consistently and therefore your “edge” will be maintained becuase mutual fund managers / hedgefund managers are pressured to prioritise short term gains over long term market outperformance, and are therefore disincentiveised to use this strategy is ridiculous. Of course there are people on wall Street that are willing to wait 3 years in exchange to best the market. Hell, if it was possible literally all of them would be doing it.
I wish I had found the book 20 years earlier, that way it would have at least worked for 7 years. Oh well, back to etf’s for me.
Hello Oliver,
You have a lot more faith in Joel Greenblatt than I!
“Oh well, back to etfs for me”.
That’s a good stategy! Especially if they are broad-market ETFs with low fees.
andrew
So I’m late to the party. Something I noticed after looking through a few of your portfolio updates is that you rebalanced once per year, which is not what Greenblatt describes in the book. Truth be told I didn’t read every single update, but at least for the first 2-3 years you only rebalanced once per year. In the appendix, it states if you want to recreate the “experiment” you must buy 5-7 stocks every 2-3 months. I believe the reason for this is that Greenblatt admits in one of the chapters that 5/12 months the portfolio underperforms. I speculate that by spreading out your equity every 2-3 months, you reduce the likelihood that you are constantly rebalancing at the worst possible time each year.
I’m about to start an experiment myself (two at one time technically). One portfolio using the MF website’s screener, and one portfolio using a stock screener with P/E and ROA (Option 2 in the appendix). I’m making the minimum MC $250M. From using a few stock screeners, I’ve found $250M to be closer to top 3500 common stocks available on the US exchanges ($50M gives you something ~like 30% more companies). My goal is to recreate the same situation as the back test. I don’t believe Greenblatt ever states what happens when you expand your criteria past the 3500 he used in the book. I imagine he left it out because returns get worse. You start picking up penny stocks or struggling pharmaceuticals/biogen companies. The portfolio that uses the MC website, I’ll just straight up pick at random. The portfolio that uses P/E & ROA I’ll also mix in 6 month price performance, which interesting enough someone above mentioned already. My reasoning is that low P/E and high ROA is good, but companies that have good numbers and are already being noticed by others is better- jumping on the undervalued company bandwagon.
Hi Mark,
Greenblatt’s strategy is to buy in equal amounts, hold each stock for a year, and then sell and re-invest in another Magic Formula stock. I followed this to the letter.
Many people have written to me over the years about how they would improve the strategy, and your idea sounds at least as good as theirs.
Good luck!