How it works
Greenblatt ran Gotham Capital. In 2005 he wrote The Little Book That Beats the Market for his kids. The idea fits on an index card:
- Earnings yield — how much the business earns compared with what it costs to buy all of it, debt included. High is cheap.
- Return on capital — how much profit the business earns on the money tied up in running it. High means a good business.
Each company gets a rank on each measure. Add the ranks together and buy the 20–30 companies with the best total, hold each for a year, and repeat. You are buying above-average businesses at below-average prices.
Our version: Greenblatt used EBIT ÷ enterprise value and EBIT ÷ tangible capital. We approximate with net income ÷ enterprise value and return on equity, using what's reliably reported in SEC filings. The spirit is the same, the numbers differ a little.
Why it works
Pure cheapness buys a lot of bad businesses; pure quality buys a lot of overpriced ones. Requiring both screens out the worst of each. Behind it is Buffett's insight that a great business bought at a fair price usually compounds better than a mediocre one bought cheap.
The track record
| Who | Period | Result | Market |
|---|---|---|---|
| Greenblatt's published backtest (largest ~3,500 U.S. stocks) | 1988–2004 | 30.8%/yr | 12.4%/yr (S&P 500) |
| Gotham Capital, Greenblatt's fund (concentrated, not the formula itself) | 1985–2005 | ~40%/yr reported | — |
Independent replications after the book came out generally found the formula still beat the market, but by much less than the headline backtest. It also had multi-year stretches of trailing the index — Greenblatt himself warned that most people would quit during one of those stretches.1
The catch
- Our approximation adds noise. Net income includes one-time items. A big gain from an asset sale can push a company to the top.
- Financials and utilities don't fit. Banks and insurers don't have "capital" the way an operating business does. Greenblatt excluded them.
- The discipline is the hard part. The formula often picks companies with a bad story attached.
Today's darlings
These are the companies that pass the screen right now, ranked the way the screener ranks them. Figures come straight from each company's SEC filings, updated every night. We filter out obvious data oddities (one-time special dividends, blank-check shells, sub-$50M micro-caps) so the list shows names worth a closer look — not recommendations.
See every match, with the arithmetic
Open the screener with Magic Formula already selected. Free to use; every row explains exactly why it qualified.
Run the Magic Formula screen- Greenblatt, The Little Book That Beats the Market (2005, updated 2010); magicformulainvesting.com.
Educational content, not investment advice. Past performance — of people, papers, or backtests — doesn't guarantee future results. Do your own homework before buying anything.