To increase one's chances of beating the market, one method is to select stocks that rank highly according to the "Magic Formula" criteria.
Created by Joel Greenblatt (Trades, Portfolio), a prominent value investor and author of "The Little Book That Beats the Market," the Magic Formula ranks stocks based on a specific array of technical criteria, the most important being the earnings yield and the return on capital.
In Greenblatt's book, these two financial ratios are built a little differently than usual The guru computes the earnings yield as earnings before interest and taxes divided by the enterprise value, while the return on capital is Ebit divided by net fixed assets and working capital.
In addition to high values in these two financial ratios, Magic Formula stocks are further narrowed down to be U.S. stocks with a market capitalization of more than $100 million, as businesses that do not possess these criteria have different capital structures. The Magic Formula also excludes financial and utility businesses for similar reasons.
Below are three stock picks that rank highly on the GuruFocus Magic Formula screener.
Catalyst Pharmaceuticals
The first stock that investors may want to consider is Catalyst Pharmaceuticals Inc. (CPRX, Financial), a Coral Gables, Florida-based biopharmaceutical developer focusing on developing treatments for rare and debilitating chronic neuromuscular and neurological diseases.
The stock traded at $4.37 per share at close on March 19 for a market capitalization of $453.72 million. As of December, it had an earnings yield of 20% and a return on capital of 23,692.10%.
Catalyst Pharmaceuticals' earnings yield ranks higher than 98% of 1,359 companies operating in the biotechnology industry, while its return on capital ratio ranks higher than 99% of 1,289 competitors.
The share price has risen by nearly 40% over the past year to trade about 8.3% above the midpoint of the 52-week range of $2.88 to $5.19.
Currently, Catalyst Pharmaceuticals does not pay a dividend.
GuruFocus has assigned a score of 9 out of 10 for the company' financial strength and 3 out of 10 for its profitability.
On Wall Street, the stock has a median recommendation rating of buy.
Franklin Wireless
The second stock that investors may want to consider is Franklin Wireless Corp. (FKWL, Financial), a San Diego-based provider of intelligent wireless solutions for hardware and software enabling machine-to-machine applications and the internet of things.
The stock closed at $18 on March 19 for a market capitalization of $208.37 million. It had an earnings yield of 12.12% and a return on capital of 2,935.12% as of December.
Franklin Wireless' earnings yield ranks higher than 95% of 2,353 companies operating in the hardware industry, while the return on capital ratio ranks better than 100% of 2,344 competitors.
The share price has risen by nearly 370% over the past year to trade about 15.23% above the midpoint of the 52-week range of $3.10 to $28.14.
Currently, Franklin Wireless does not pay a dividend.
GuruFocus has assigned a score of 6 out of 10 for the company's financial strength and 4 out of 10 for its profitability.
On Wall Street, the stock has one recommendation rating of buy.
IDT
The third stock investors may want to consider is IDT Corp. (IDT, Financial), a Newark, New Jersey-based provider of telecommunication products and payment services in the U.S. and internationally.
The stock closed at $22.35 per share on March 19 for a market capitalization of $574.96 million. As of Jan. 31, it had an earnings yield of 18.52% and a return on capital ratio of 111.53%.
IDT's earnings yield ranks higher than 82% of 410 companies operating in the telecommunication services industry, while the return on capital ratio ranks better than 95% of 407 competitors.
The share price has risen by nearly 330% over the past year to trade about 59.64% above the midpoint of the 52-week range of $4.90 to $23.09.
Currently, IDT does not pay dividends. The last distribution, a quarterly dividend of 9 cents per common share, was made in June 2018.
GuruFocus has assigned a score of 7 out of 10 for the company's financial strength and 6 out of 10 for its profitability.
On Wall Street, the stock has one recommendation rating of hold.
Disclosure: I have no positions in any securities mentioned in this article.
Read more here:
- A Trio of Stock Picks for the 'Buy and Hold' Approach
- 3 Net Current Asset Value Stocks
- 3 Stocks Trading Below Intrinsic Value
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