Stock picking is often painted as a high-stakes guessing game, but what if there was a formula to help you stack the odds in your favour? Enter Magic Formula Investing, the brainchild of US hedge fund manager Joel Greenblatt. The promise: a systematic, rules-based approach to finding undervalued, high-quality companies—no Wall Street wizardry required.
But here’s the million-dollar question for 2025: Can this American-born strategy really help Australian investors outperform the market? Let’s dig into how Magic Formula Investing works, how it fares on the ASX, and whether it’s a smart move in today’s regulatory and economic environment.
What Is Magic Formula Investing?
Developed in the mid-2000s, Joel Greenblatt’s Magic Formula uses just two key metrics to rank stocks:
- Earnings Yield: How cheap a stock is (calculated as EBIT/Enterprise Value).
- Return on Capital: How efficiently a company turns capital into profits.
The process is simple: screen for companies above a minimum market cap (often $100 million), exclude financials and utilities, rank the rest by the two metrics, then buy the top 20–30 stocks and rebalance annually.
Greenblatt’s research, and his book The Little Book That Beats the Market, showed impressive back-tested results in the US. But, as always, past performance is no guarantee—especially outside Wall Street.
How Does Magic Formula Investing Fit the Australian Market?
Australia’s sharemarket has its own quirks—think resource giants, a heavy financial sector, and fewer mega-cap tech stocks. Here’s how the Magic Formula adapts to the local landscape in 2025:
- ASX-Ready Screens: Several Australian brokers and data services now offer screens for Magic Formula criteria, making it easier than ever to compile your shortlist.
- Market Cap Filter: Adjusting the market cap minimum to AUD $200 million is common, given the size difference between US and Australian stocks.
- Exclusions: As in the US, most investors skip banks and utilities due to their unique balance sheets and regulatory environments. In 2025, some also exclude mining explorers, which can skew results due to volatile earnings.
In recent years, several Australian ETFs and managed funds have launched ‘quantitative value’ or ‘quality’ strategies inspired by Greenblatt’s method, though few follow it to the letter.
Performance and Pitfalls: The 2025 Reality Check
So, how has the Magic Formula fared in Australia? Over the past decade, local backtests (by independent researchers and some robo-advisers) suggest the strategy has delivered outperformance in some periods—especially when value stocks are in favour. But it isn’t magic:
- Recent Returns: From 2020 to 2024, many ‘deep value’ strategies underperformed growth stocks. However, the 2023–2024 ASX rotation back to value saw a comeback for Magic Formula-style portfolios.
- Volatility: The approach can lead to lumpy returns and extended periods of underperformance, testing even the most disciplined investors.
- Tax and Friction: Annual rebalancing may trigger short-term capital gains and extra brokerage fees—something to consider in a post-2024 environment where ATO data-matching and transaction reporting is more robust than ever.
- 2025 Policy Update: The Treasury’s 2025 review of managed investment schemes has prompted some ASX-listed funds to disclose more about their screening and rebalancing methods, giving retail investors clearer comparisons for DIY vs. professional implementation.
Example: An investor who used Magic Formula screens in 2022, buying a basket of 25 ASX mid-caps, saw an average total return of 9% p.a. through to 2025—outperforming the ASX 200 index, but with higher drawdowns during tech rallies.
Should You Try the Magic Formula in 2025?
Magic Formula Investing is not a silver bullet, but it’s far from snake oil. For disciplined investors who can stomach volatility and stick to the rules, it can be a powerful way to avoid emotional mistakes and focus on company fundamentals. Still, it requires:
- Patience through lean years when momentum and growth dominate
- Comfort with sector tilts and occasional ‘unloved’ companies
- Attention to brokerage costs, tax impacts, and periodic portfolio maintenance
For those wanting a hands-off approach, several ASX-listed value ETFs now offer formula-based exposure without the admin headache. But if you’re a hands-on investor, running your own Magic Formula screen could be a rewarding experiment in 2025’s ever-shifting market.
