# Greenblatt Magic Formula Test for Indian Stocks

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Choosing stocks for investment is not an easy task. You have to read years of annual reports, study the industry in which the company is operating and then we need to do the valuation. It requires a lots of study and research. Things can be made easy by filtering the stocks on certain parameters suggested by some great investors. One such stock filtration formula is the magic formula.

Magic formula was invented by Joel Greenblatt, the author of The little book that beats the market for his Children who were aged between 6-15 at the time. The formula is designed for kids, it involves very basic maths and is easy to understand for everyone.

Greenblatt says about the formula in the book.

a long-term investment strategy designed to help investors buy a group of above-average companies but only when they are available at below-average prices.

Below is the formula as described by the Wikipedia page

1. Establish a minimum market capitalization (usually greater than \$50 million).
2. Exclude utility and financial stocks.
3. Exclude foreign companies (American Depositary Receipts).
4. Determine company’s earnings yield = EBIT / enterprise value.
5. Determine company’s return on capital = EBIT / (net fixed assets + working capital).
6. Rank all companies above chosen market capitalization by highest earnings yield and highest return on capital (ranked as percentages).
7. Invest in 20–30 highest ranked companies, accumulating 2–3 positions per month over a 12-month period.
8. Re-balance portfolio once per year, selling losers one week before the year-mark and winners one week after the year mark.
9. Continue over a long-term (5–10+ year) period.

I am twisting the formula a little bit for Indian market

1. Select companies above market cap of 400 crore only
2. Remove financial stocks
3. Determine company’s earnings yield = EBIT / enterprise value.
4. Determine company’s return on capital = EBIT / (net fixed assets + working capital).
5. Rank all companies above chosen market capitalization by highest earnings yield and highest return on capital

I ran the query on Screener.in and got these 30 stocks

No. Name Earning Yeild ROIC
1 Lycos Internet 51.47 69.61
2 Sandesh 22.12 59.39
3 Jindal Stain .Hi 27.97 45.22
4 MRF 16.75 44.65
5 Eros Intl.Media 15.48 43.18
6 Manali Petro 17.46 40.93
7 Ceat 15.69 39.53
8 NCL Industries 18.8 30.01
9 Shilpi Cable 28.5 28.97
10 GoodYear 18.14 28.25
11 IOCL 16.09 28.14
12 Oil India 20.85 27.22
13 JK Tyre 18.47 26.24
14 IG Petrochem 18.61 25.82
15 BS 22.34 25.19
16 JSW Energy 18.97 24.7
17 H T Media 15.52 24.11
18 Jindal Poly Film 17.82 22.98
19 GHCL 18.68 22.84
20 PTC India 23 21.93
21 Balmer Lawrie 19.52 21.04
22 R Systems Intl. 29.72 20.79
23 Bengal & Assam 28.24 19.51
24 Kalyani Steels 25.34 19.18
25 Torrent Power 21.85 18.04
26 Srikalahas. Pip 30.76 16.85
27 Pennar Inds. 20.36 16.83
28 Vindhya Telelink 36.02 16.37
29 KEI Inds. 27.44 16.28
30 Marathon Nextgen 207.32 15.44

This magic formula has outperformed S&P500 96% of the time. Let us test how this magic formula works for Indian stocks. I am picking 20 stocks from the magic formula filtered stocks, eliminating some stock of the same sectors and companies with higher debt.

We are vitually investing 10,000 Rs in each stock and we will track how the portfolio performs in 12 months. After 12 months we will remove 2 stocks by booking profit in the best  performer and loss in the worst performer and will replace these stock with other stocks from the magic formula screen. The portfolio sheet can be viewed here