After Not-So-Magic 2011, Brighter Outlook

NEW YORK ( -- So, how did the Magic Formula® Investing strategy perform in 2011? In a word: poorly, along with pretty much any other fundamental value strategy and small-cap indicies in general.

Simply put, 2011 was not a good year to be a value investor. For one of the few times in history, most quantitative fundamental value strategies significantly trailed most of the major benchmarks.

The weekly sample screens and their performance vs. the S&P 500 can be seen in the chart at the end of this article. Each entry represents one of the actual "Top 50 stocks over 50 million" screen listings from the official site. The composite performance is an average of the individual performances of all 50 stocks screened on that day, including dividends. The ending date for the calculations was market close on 12/23.

The chart is interesting in that there are two distinct stories here. First of all, for much of the year the strategy badly lagged the index, in many cases by 15% to 20%. However, there was a slow improvement starting in the summer, and in October the screen started outperforming the S&P, which it has continued to do now for 13 consecutive weeks. Overall, the samples show MFI outperforming for 13 weeks and underperforming for 36. The average relative performance for MFI vs. the S&P was negative 9.2%.

Some observations and tidbits concerning these results and the strategy in 2011:
  • This is the first year MFI has underperformed the S&P since MagicDiligence started following it back in 2008, for either average relative performance or number of weeks outperforming.
  • Chinese reverse takeover stocks gutted the strategy's performance in the first half. In the worst individual sample (week 9, week of March 2), China Northeast Petroleum (NEP) was down 59%, ZST Digital Networks (ZSTN) 68%, ChinaNet Online (CNET) 72%, Guanwei Recycling (GPRC) 73%, Sino Clean Energy (SCEI) 82%, New Energy Systems (NEWN) 88%, and Jiangbo Pharmaceuticals (JGBO) a staggering 98% as it collapsed to de-listing.

    Removing these RTOs would have improved the strategy's performance by about 10 percentage points apiece for the first half of those samples. MFI began filtering them out in the summer and the last record I have of one was in week #31, which, not coincidentally, matches where the strategy's performance really turned the corner.
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