The Magic Formula's Cumulative Top 20

by: MagicDiligence

Over the past several weeks, MagicDiligence has been ranking stocks on two of the Magic Formula Investing screens by several well known value and momentum statistics that have been shown to outperform the market in James O'Shaughnessy's book What Works on Wall Street. For those that missed them:

For the final article in this vein, we're going to combine all of the rankings into a cumulative chart, a quantitative measure of the most undervalued stocks on the MFI screen. The methodology here is simple. All of the stocks in the two MagicDiligence MFI screens, the top 100 over 50 million and the top 50 over 2 billion, were first ranked 1-130 (there were 20 stocks on both screens) in each category. For example, the stock with the lowest price-to-sales ratio gets 1 point, while the highest price-to-sales ratio received 130 points. Then this procedure was duplicated for dividend yield, relative strength (1-year performance), and price-to-book ratio. When a number of stocks held the same value, the ranking assigned was the same number to all matching stocks (for example, all non-dividend paying stocks earned a rank of 55). A cumulative score was achieved by adding the 4 rankings together. The goal is to find the stocks that ranked the highest on average across all statistics.

This list should just be used as a starting point for more research. O'Shaughnessy specifically points out that using too many statistical factors does not usually improve performance. However, the fact that these stocks would place high in several of his individual portfolio studies bodes well for their potential investment quality.

There are some interesting opportunities in this list, so here it is... The numbers in the columns represent ranking for each statistic used.

PACR Pacer International 20 4 10 31 65
IPHS Innophos Holdings 63 19 15 7 104
MAN Manpower 24 3 35 43 105
NOC Northrop Grumman 7 28 19 55 109
FIX Comfort Systems USA 44 15 39 13 111
EME EMCOR Group 42 5 55 16 118
SHFK.PK Schuff International 11 5 55 48 119
WTSLA Wet Seal 47 19 55 9 130
HSII Heidrick & Struggles 30 40 26 38 134
STX Seagate 4 8 8 119 139
TBI TrueBlue 32 10 55 49 146
GPX GP Strategies 11 14 55 67 147
ABC AmerisourceBergen 80 2 46 21 149
RSH RadioShack 75 16 37 30 158
HCKT Hackett Group 29 42 55 33 159
USMO USA Mobility 69 70 4 17 160
WDC Western Digital 22 16 55 72 165
OPTV Open TV 16 93 55 3 167
IBAS iBasis 2 1 55 109 167
KBR KBR Inc. 30 10 45 84 169
Click to enlarge

A few observations here. Pacer International (NASDAQ:PACR) dominates this list, scoring a full 39 points lower than second place Innophos (NASDAQ:IPHS). That's well over half the 2-20 spread of 65 points. Both major U.S. disk drive makers also appear on this list. Disk drives have long been deemed a dying and hyper-competitive business by the market, but looking at the historical return on capital figures for both Seagate (NASDAQ:STX) and Western Digital (NASDAQ:WDC), as well as recent sales growth, the numbers sharply contradict this assessment.

MagicDiligence will be focusing upcoming quick take reviews on this list of stocks, some of which will be posted to the blog and the rest of which will be available exclusive to members.


: Author owns no position in any stocks discussed in this article.