New Year's resolutions are all about challenging our weaknesses. Whether it's over-indulging with food, or under-indulging with exercise, it's the one time each year that we recognise our human foibles and resolve to do better. So what better time to consider an investing strategy that promises to rid us our profit-killing emotional biases?
Joel Greenblatt may not be a household name here in Australia, but he is one of the world's best investors. Over a 19 year stretch, Greenblatt's 'special situations' hedge fund generated compound annual returns of an astonishing 45% per year. That is enough to turn an initial investment of $10,000 into over $11 million!
Working his magic
Today Greenblatt is managing over $5 billion with a quantitative value strategy that is based on an expansion of what he calls the Magic Formula. The premise of the Magic Formula is simple: buy statistically good companies at statistically cheap prices, without regard for how beautiful or ugly they may look.
Greenblatt is quick to point out that we should make sure to diversify when using this approach. The Magic Formula is a numbers game. Aside from a couple of hidden gems, most of the companies will have something obviously wrong with them. Others will be downright hideous.
Here are the good, the bad, and the ugly from the Magic Formula's top 30 ASX picks for 2015:
The Good: Webjet (ASX: WEB)
Webjet is a classic example of a good company available at a cheap price.
For many Australians, heading over to webjet.com.au is their first and last stop when booking a flight. That automatic brand association has allowed Webjet to grow sales at a compound annual rate of 28 per cent.
Yet despite that strong performance, Webjet trades at less than 12 times trailing earnings, with many analysts fretting over new international competition. But at the current share price Webjet should handily beat expectations, even if its growth slows significantly from the recent past.
The Bad: Reverse Corp (ASX: REF)
Reverse Corp's current market capitalisation of $11.5 million is a far cry from the peak of over $300 million that the company reached in 2007.
Reverse Corp's primary business is the provision of reverse calling services under the 1-800-REVERSE brand in Australia. Make no mistake about it, this is not a great long-term business. The rise of instant messaging and free phone systems such as Skype make this an industry in long-term structural decline.
But keep that $11.5 million market capitalisation in mind, and then consider that Reverse Corp is sitting on over $6 million in net cash, reported net profit of $1.6 million last year, and expects to report EBITDA of over $1.35 million in the first half of this financial year alone.
The Ugly: Vocation (ASX: VET)
Over the past three months, Vocation's shares have plummeted a nausea-inducing 91%.
The education and training services company has been reeling after announcing that the Victorian Government would cancel funding, forcing it to significantly restructure its business model. To top things off, the company faces a class-action lawsuit over alleged breaches of disclosure and deceptive conduct.
You'd be hard pressed to find an uglier investment.
Remember though, that the Magic Formula only works through diversification. If 60 per cent of companies in Vocation's position go to zero, but the rest triple in value, the Magic Formula would still clock up a solid 20% gain on the group.
