My latest blog post is a dive into metrics that have outperformed over time that I weight heavily in my favorite stock screener and in my investment process. Below that are some recommended readings for the week.
Q4 hedge fund letters, conference, scoops etc
We’re heading into school vacation for my kids next week. We’re staying local and will do a little skiing, but it means the newsletter will take a week off. Talk to you in 2 weeks!
Best,
Mike
The Best Value Stock Screening Ratios – As Shown By Machine Learning
by Mike Errecart
A data-driven and value-focused investment fund publishes some fascinating research in its quarterly letters that we can use to find the best value stock screening ratios.
I’ve mentioned Euclidean Technologies before. It is a machine learning-driven value fund that was founded in 2008. I’m going to talk about two analyses they’ve published, which have helped me develop a new stock screener that’s working out well so far.
The “Magic Formula”: Good Companies or Good Prices?
For those that aren’t familiar, Joel Greenblatt wrote a book called “The Little Book That Beats the Market.” This presented his “Magic Formula” for buying good companies at good prices. He focused on two key ratios:
- Earnings Yield = EBIT / Enterprise Value (where Enterprise Value is Market Value + Debt – Cash)
- Return on Invested Capital (ROIC) = EBIT / Invested Capital (where Invested Capital is Net Working Capital + Net Fixed Assets)
Earnings yield basically tells you how cheap a company is compared to its ability to generate cash for its owners. All else equal, you would want companies with higher earnings yields.
ROIC measures a company’s ability to generate cash for its owners relative to how much capital has been invested in the business. It’s a great indicator of how efficiently a company deploys capital. Again, the higher, the better.
Greenblatt basically tells you to get these ratios for all companies and weight them equally when screening and selecting your investments.
Adding Nuance to Magic Formula Investing
In their Q2 2013 letter, Euclidean asked two questions:
- Should these two ratios really be weighted equally?
- Are there environments where his approach tends to do well or poorly?
Euclidean examined 10 different weightings of the Good Price (using Earnings Yield) and Good Company (using ROIC) ratios over the timeframe from 1973-2012 — much longer than Greenblatt used in his book.
What we’re reading in the media
Gurus
- Michael Burry’s Q4 2018 holdings [SEC]
- Stocks Appearing in Dalio, Fisher, Greenblatt Portfolios [Acquirer’s Multiple]
- Michael Mauboussin – Who Is On The Other Side?[PDF]
- The Greatest Investor You’ve Never Heard Of: An Optometrist Who Beat The Odds To Become A Billionaire [Forbes]
Stock analysis/process
- Outperformance and Thinking Differently, Part I: Quality Not Quantity[Gurufocus]
- Calculating the Total Cost of ETF Ownership [Morningstar]
- Dividend Cut, What Do I Do? [Dividend Guy]
Markets
- Beware of a Recessionary Bias Among Analysts[Tim Duy]
- The Incredible Shrinking Singapore Stock Market[Bloomberg]
- Three reasons why working past your retirement age makes sense[Humble Dollar]
- What Does ‘Moderate Risk’ Mean? Depends on Where You Live[Think Advisor]
What is Old School Value? Old School Value is a suite of value investing tools designed to fatten your portfolio by identifying what stocks to buy and sell.
It is a stock grader, value screener, and valuation tools for the busy investor designed to help you pick stocks 4x faster.
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