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Ah, hello. This is The One, from the Money-Making Don't Vision. I’m going to cover the third part of the famous investment series today. Everyone, hearing investment terms like PER, EPS, Score, Yield, 2V, EBITDA, and so on, probably gives you a headache, right? It’s the same for me. At this point, you might start thinking, "Among all these indicators, can't we just pick out two or three truly effective and useful ones for investing?" There is a famous investor who might be able to solve these investor headaches, and today's protagonist is him.
The star of today's video is Jo Hwa-Dream Blati, the founder of the private equity firm Gotham Capital, who achieved an annual performance of 40% for about 20 years, from founding the company in 1985 until 2005. He introduced an indicator that can beat the stock market with just two variables, which is called the " Magic Formula" because it works surprisingly simply yet effectively.
Those two are Return on Capital (ROC) and Earnings Yield. So, let's take a detailed look at how this investment method works. If we were in 1985... If you had invested 100 million won in a fund, due to the compounding effect, it is highly likely that it would have grown to a whopping 600 million won by 2005.
Simply looking at his performance, it is a situation where one might question whether it is possible. You might even think, "Is he boasting about buying skyrocketing stocks like some kind of magic?" However, Grim Blatt is a thorough value investor. His magic formula focuses on buying low and selling high; he has consistently invested by buying blue-chip companies when they are trading cheaply under various conditions and selling them later at their true value.
You might think, "Oh, then if I know this magic formula, which isn't that difficult, I can become rich too." However, the reality is that it is not that easy. This is because while the magic formula can be an effective strategy for the market in the long term, it can lag behind the market in the short term, or even fall significantly behind.
General investors suffer from despair if their portfolios show sluggish performance for several months or over a year. Therefore, they are unable to stick to this magic formula for the long term. You all agree, right? I said that the benefits of Grimblatt's Magic Formula mostly go only to small-time investors who can maintain a true long-term perspective.
So, who was Joe Grimblatt? Born in 1957, Grimblatt is relatively young among widely known famous investors such as Warren Buffett, Charlie Manners, Peter Lynch, and George Soros. He completed his studies at a school in Pennsylvania and founded a fund called [ __ ] Filter. Since starting operations in 1985, he achieved an average annual return of 40% through 2005.
In addition to his overwhelming investment success, another reason he became famous is the book he published. Published in 2005, *The Little Book That Beats the Market* has been a bestseller in the investment field since its release. In fact, until Grimblatt made this Magic Formula known to the world through this book, his public recognition was actually low.
The reason he wrote it was to teach his children how to make money, which is why it is said to have been written in a very simple way. In *The Little Book That Beats the Stock Market*, Grim Blatt explains the principles of the stock market using a few simple examples. The point Grim Blatt wanted to make in the book was that experts or academics are of no help in the stock market, and therefore, the only solution is to try it yourself.
And what helps you do that yourself is the "Magic Formula." Grim Blatt has served as an adjunct professor at Columbia Business School since 1999, where Benjamin Graham and David Dodd first taught securities analysis courses. He has been actively involved in various fields related to investment, stating, "I enjoy teaching and writing; this feels like giving back to the world what I have learned." So, what is that "Magic Formula"?
The Magic Formula is actually quite simple. It involves buying above-average companies at below-average prices. In other words, it is a very simple method of buying a good company for a fortune. Let's compare stock investment to that of an entrepreneur. When starting a business, to acquire a good product or company, the expected profit margin relative to the cost you invest...
It must be good, and also, no matter how good an item or business is, you should never buy it at a high price. Applying these basic and common-sense concepts to stock investment is the core of the Magic Formula. Shall we explain the two points mentioned earlier in detail? First, the Return on Capital (ROC) is an indicator showing how much profit is generated relative to the capital actually invested in operating activities.
ROC is represented as the ratio of pre-tax operating profit to the input tangible capital. Figure Clatu had several reasons for using ROC for capital instead of the commonly used Return on Equity (ROE) or Return on Total Assets (ROA). The reason for using ROC for capital instead of net profit is that debt levels and other factors vary from company to company; in other words, by using the ROC for capital, one can eliminate the negative effects caused by differences in debt levels and compare pure profit-related earnings.
Furthermore, the reason for using input tangible capital instead of total capital or total assets was to determine how much capital is actually invested in a company's operations. Cash, etc. And since intangible assets are not costs directly input into actual operating activities, the logic is that they are not efficient when measuring profit relative to capital.
Second, what is the profit margin? The profit margin is calculated as a ratio of pre-tax operating profit to enterprise value. The reason we use the profit margin instead of the commonly used P/E ratio is that the concept of the profit margin allows us to know how much money is being earned relative to the purchase price of the business.
Enterprise value requires considering all the debt incurred by the company to generate operating profit. By comparing the pre-tax operating profit and the profit margin with the enterprise value calculated earlier, we can calculate the pre-tax profit margin relative to the total purchase price. Ultimately, this allows us to place companies with different levels of debt and tax rates on the same plane and compare their profit margins.
In conclusion, this "magic formula" can be seen as a simple, yet rational and standard method for investing in companies that are highly profitable and trading cheaply on the stock market. So, shall we summarize the investment sequence of the VIT magic formula? First, the funds to be used for the investment and Next, determine the size of the target investment companies.
Second, list them according to the Magic Formula. For instance, within the RCMP 500, list companies in order of highest capital performance and then list them in order of highest profit margin. Third, add the capital performance ranking and the profit performance ranking. For instance, a company ranked 2nd in capital performance and 4th in profit performance results in a total of 6.
Then, rank the companies starting from the one with the lowest 2nd place score. Fourth, purchase the 5 to 7 companies with the lowest rankings. During the initial one-year investment period, purchase only 20 to 30% of the investment amount; this is dollar-cost averaging. Fifth, to use the remaining funds, repeat the above process every three months until 100% of the investment capital is realized.
Sixth, hold each purchased stock for one year and then sell it. Seventh, continue repeating the above process after the sale. Eighth, through the above process, continuously repeat it for at least 3 to 5 years, regardless of whether investment performance is good or bad. Does the Magic Formula really work?
Such a Magic Formula... I am also curious whether this actually had an effect on the stock market. In fact, the Magic Formula has the disadvantage of being difficult to implement. Just as he said that excellence lies in the fact that it is not particularly excellent, investing using the Magic Formula seems to require a great deal of patience.
While it is true that the companies discovered through the Magic Formula are undervalued relative to their earnings, there is also a possibility that they are companies shunned by investors or companies that no one intends to buy. Furthermore, short-term performance with investments using the Magic Formula may be poor, or one might have to endure years of bitterness.
Despite these various flaws, the Magic Formula has nevertheless had an excellent effect in the long term. The results of the Magic Formula 100 test conducted on the top 1,000 U.S. companies from 1998 to 2009 showed an excellent result of an annual average of 19.7%. Based on these results—that is, why stocks with high Magic Formula rankings are considered good choices—it is easy to understand why stocks are considered good investments.
While it is natural for stock prices of companies with high returns on capital to be high, the Magic Formula does not include stocks that are both high in return on capital and low in price. Grimblatt is known as a very honest investor. He goes so far as to say that while the Magic Formula is effective in the long term, it might not be effective in the short term.
Nevertheless, what he emphasized is that mastery of the Magic Formula and patience are required. He states that if you have conviction in the method and the courage to wait, you can bear fruit. However, thinking about it again, how does this tracking method differ from those of other investors I have previously introduced?
* I will not cover this again. Buying blue- chip companies at a low price and holding them for a long time— isn't this the basic investment philosophy of famous investors? However, the reason Grimblatt gained such popularity among ordinary investors in a short period, unlike other investors, was that he presented this method specifically, and that the method is not as difficult as one might think.
Furthermore, in the revised edition of his book *The Little Book That Beats the Market*, Grimblatt released a free website for applying the Magic Formula. It is a site called *Magic Formula Basting Da Gum*, where you can use the Magic Formula's calculations and high-quality data. I will attach the link below the video content.
In a stock market like this, in the short term When you are wondering which stocks to buy at a bargain price during a significant drop, why not try applying his magic formula? I sincerely hope your portfolio is filled with excellent stocks. That’s all for today’s video; I’ll be back in the next one. Thank you. er
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