The ‘Magic Formula’ Whips Up 5 More Value Stocks

by Charles Sizemore | August 19, 2013 7:00 am

There’s no magic formula that will provide investors with every last investment pick they’ll ever need to make … but what if I told you there’s one that can at least get you started?

Last month, I ran a screen of “Magic Formula” stocks[1] from hedge fund guru Joel Greenblatt’s screener. I recommend you read the original piece[2] because I explain what the Magic Formula is and how it works. But for the sake of simplicity, I can summarize it like this: The Magic Formula is a list of highly profitable companies trading at cheap valuations.

The list of value stocks isn’t foolproof, of course, and it is subject to information lag. For example, profitability (based on Greenblatt’s favorite metric, return on capital) is based on the most recent quarterly filings, and a lot can change from quarter to quarter.

So, the Magic Formula screen should be viewed as a great starting point for your investment research and as a great fishing pond for potential value stocks, as long as you don’t assume that every stock on the list is a bargain.

With that said, I reran the screen for August with the same parameters as July: top 30 Magic Formula value stocks with a market cap of $1 billion or more.

We have several familiar names that have been on the list off and on for the past several years — Microsoft (MSFT[3]), Cisco (CSCO[4]) and Lorillard (LO[5]), for example. Dell (DELL[6]) — which, as I noted last month, is tied up in a fight for control of the company between founder Michael Dell and a group of shareholders led by Carl Icahn — also made the cut.

On a list of 30 names, 25 were unchanged from July. But we did have five subtractions and five new additions:

On The List			Off The List
Coach	COH		Abbott Laboratories	ABT
Express	EXPR		CF Industries	CF
PDL BioPharma	PDLI		GameStop	GME
Sturm, Ruger & Co.	RGR		Questcor Pharmaceuticals	QCOR
ValueClick	VCLK		Weight Watchers International	WTW

Of the five stocks bounced from the list from last month, it’s worth noting that all but Abbott Labs (ABT[7]) and Weight Watchers (WTW[8]) still made the cut on the expanded 50-stock list (I encourage you to play with the list here[9]. Adjusting the portfolio size and minimum market cap can produce almost infinite numbers of portfolios.)

It’s also worth noting the stock price performance over the past month. Weight Watchers is down by nearly a quarter from its Aug. 2 highs while Questcor Pharmaceuticals (QCOR[10]) is up almost 40% in the past month, and GameStop (GME[11]) is up about 12%.

The new additions for August will have a few familiar names. Coach (COH[12]) has been off and on the Magic Formula list for years. Coach is a monstrously profitable company with a return on equity of 47%. Yet the success of upstart rival Michael Kors (KORS[13]) has dampened enthusiasm for the stock, which is down by more than 30% from its old 2012 highs.

Fashion retailer Express (EXPR[14]) also made the cut, as did firearm maker Sturm, Ruger (RGR[15]). With President Obama — perceived by many to be “anti-gun” — now in office for nearly five years and with the tragic Sandy Hook school shooting fading from the headlines, the possibility of immediate and comprehensive gun control is receding. Perversely, this is actually bad for handgun makers, which have enjoyed a windfall from panicked gun owners fearing that their window of opportunity to buy a gun was closing. Handgun makers like Sturm, Ruger should not expect to see the kinds of revenue gains they’ve enjoyed for the past several years.

Still, Sturm, Ruger is attractively priced at 11 times earnings and sports a 4.6% dividend yield.

And lastly, online marketing company ValueClick (VCLK[16]) and biotechnology firm PDL BioPharma (PDLI[17]) made the cut in August as well.

Charles Lewis Sizemore, CFA, is the chief investment officer of the investment firm Sizemore Capital Management.  As of this writing, Sizemore Capital was long MSFT, CSCO and ABT.  Click here[18] to receive his FREE 8-part investing series that will not only show you which sectors will soar but also which stocks will deliver the highest returns. The series starts November 5 and includes a FREE copy of his 2014 Macro Trend Profit Report. 

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