Trying to Find Good Companies When they are Cheap and Poised to Benefit from Macro Trends
Joel Greenblatt's method of screening for good (as defined by ROIC) stocks that are currently cheap (as defined by EBIT/EV) makes intuitive sense. The idea of buying stocks that are poised to continue benefiting (or, even better, start benefiting) from macro trends makes intuitive sense as well (at least it does to me). What I have tried to do so far this year is buy only the Magic Formula stocks that I think have the potential to benefit from macro trends. This has been a challenge, because these sorts of stocks have been relatively scarce on the Magic Formula list.
Why This Sort of Stock has been Hard to Find on the Magic Formula List
Part of the reason for this is that good companies that are benefiting from macro trends often don't stay cheap long. One such example is Graham Corporation (GHM), a small cap company based in Batavia, NY that manufactures vacuum and heat transfer equipment. That may not sound too exciting, but this sentence from Yahoo! Finance's description of Graham's business will give you an idea of the macro trend tail winds behind the company (emphasis mine):
Graham Corporation's products are used in a range of industrial process applications comprising petroleum refineries, chemical and petrochemical plants, fertilizer plants, pharmaceutical plants, plastics plants, liquefied natural gas production facilities, soap manufacturing plants, air conditioning systems, food processing plants, and other process industries, as well as power generation facilities, including fossil fuel, nuclear, cogeneration, and geothermal power plants.
I had my eye on Graham in March, when it was trading in the mid-$30s, and planned to buy it the following month, when I was scheduled to make my Magic Formula trades. Before I was ready to buy it, Graham announced blowout earnings and the stock shot up 20 points, taking it off the Magic Formula list. It's up another 20 points since. Since then, I haven't seen any company on the Magic Formula list positioned to benefit from as many macro trends as Graham Corp.
Another reason it has been relatively hard to find stocks poised to benefit from macro trends on the Magic Formula list is that the list excludes most foreign stocks and ADRs1. The reason for this is simply that Greenblatt didn't have the data to back-test his system with non-North American stocks; he has said that he still believes that the strategy of buying good stocks cheaply should work in other markets as well.
Combining Joel Greenblatt's Value Methodology with Jim Rogers's Insight that we are in a Secular Bull Market in Commodities
The secular bull market in commodities that Jim Rogers describes (see my earlier post Jim Rogers versus Vitaliy Katsenelson, Part I) is the mother of all macro trends. Since Rogers has written that non-commodity producing companies operating in regions benefiting from the secular bull market in commodities may profit indirectly from it2, one way to find more Magic Formula-type stocks benefiting from macro trends may be to apply the Magic Formula screens to stocks in countries benefiting from the secular bull market in commodities. I suspect that a basket of high earnings yield, high return on invested capital stocks in a country such as Australia will outperform a similar basket of American stocks over the next several years. I haven't found (yet) a website that I can use to screen for Magic Formula-type stocks in other countries, but I did recently buy stock in a foreign company after (incorrectly, as it turned out) crunching the Magic Formula metrics on it myself. That company was Alloy Steel International (AYSI.OB), and since I've already threatened to write a post about it, you can expect that post soon.
Although I continue to look for stock ideas on the Magic Formula Investing website, I no longer limit myself to it, and am more concerned with finding stocks that appear to be undervalued based on their future prospects and positioned to benefit from relevant macro trends.
1In practice, the Magic Formula list has been a little inconsistent with respect to foreign companies. Although it doesn't list any ADRs, it does occasionally list foreign companies that are listed directly on the Nasdaq, e.g., ELOS (Israel), and CAST (China).
2E.g., if an iron mine is operating full tilt and paying a lot of overtime, the miners may have more cash to spend at local restaurants, retailers, etc.