Study Period: 1963–2022, U.S. stock market
Strategies Analyzed: F-Score, Magic Formula, Acquirer’s Multiple, Conservative Formula
Performance: All strategies outperformed the market over the long run, but their effectiveness has diminished since the 2000s
Key Factors: Returns were largely explained by value, profitability, and momentum factors
Concentrated Portfolios: A top 40-stock portfolio delivered higher returns but came with increased volatility
Opinion
Formula-based investment strategies have historically provided excess returns, but their effectiveness has declined over the past two decades. The increasing efficiency of financial markets and broader access to information have made it harder for investors to maintain a strategic edge. The diminishing premiums on value and profitability factors suggest that previously successful formulas may not generate the same level of outperformance going forward. Rather than relying solely on one strategy, investors should adopt a tailored approach based on their financial goals and risk tolerance.
Core Sell Point
Formula investing can still offer market-beating potential, but with declining effectiveness, investors must carefully select strategies that align with their objectives and risk preferences.
Study Period: 1963–2022, U.S. stock market
Strategies Analyzed: F-Score, Magic Formula, Acquirer’s Multiple, Conservative Formula
Performance: All four strategies outperformed the market over the long run, but their effectiveness has declined since the 2000s
Factor Exposures: Returns were primarily driven by value, profitability, and momentum factors
Concentrated Portfolios: A top 40-stock portfolio delivered higher returns but also exhibited greater volatility
Analysis & Insights
Long-Term Outperformance, But Recent Slowdown
While all four strategies generated excess returns historically, their performance has weakened in recent decades.
The decline is likely due to increasing market efficiency and reduced arbitrage opportunities.
Characteristics of Each Formula
F-Score: Effective in selecting financially sound value stocks but struggled as the value premium shrank.
Magic Formula: Combined profitability and return on capital, achieving strong historical performance but with a recent slowdown.
Acquirer’s Multiple: Focused on enterprise value to identify undervalued companies, offering significant value exposure.
Conservative Formula: Emphasized low volatility, momentum, and net payout yield, making it attractive for stability-focused investors.
Risk-Adjusted Returns
Most strategies produced positive CAPM alpha, though risk-adjusted performance varied.
The Conservative Formula demonstrated superior drawdown management, making it an effective risk-mitigation tool.
Concentrated vs. Diversified Portfolios
A top 40-stock concentrated portfolio outperformed more diversified approaches but came with increased volatility.
Investors should align their risk tolerance with the appropriate formula-based strategy.
No Universal Winner
No single strategy consistently outperformed across all evaluation metrics.
Investors should select strategies based on their specific financial goals and investment style.
Conclusion
Formula investing remains a viable method for achieving excess returns, but recent market efficiency gains have made it harder to maintain an edge. Investors should carefully assess their investment objectives and risk tolerance before selecting a formula-based strategy.
[Compliance Note]
All posts by Sellsmart are for informational purposes only. Final investment decisions should be made with careful judgment and at the investor’s own risk.
The content of this post may be inaccurate, and any profits or losses resulting from trades are solely the responsibility of the investor.
Core16 may hold positions in the stocks mentioned in this post and may buy or sell them at any time.
