Magic Formula

The Two Factors

Greenblatt's Magic Formula, introduced in The Little Book That Beats the Market (2005) and revised in The Little Book That Still Beats the Market (2010), ranks every company in a universe on two dimensions and adds the ranks together. Earnings yield — EBIT over enterprise value — measures cheapness in a way that neutralizes differences in capital structure. Return on capital — EBIT over tangible capital employed — measures how productively the business turns capital into profit, stripped of goodwill and financing effects. Neither factor alone is the point: a stock cheap on earnings yield but weak on return on capital, or the reverse, ranks poorly overall. The formula only rewards names that clear both bars at once, and both figures come from the same operating-profit line, which keeps the ranking simple enough to run across a large universe without security-specific adjustments.

Buy a Basket, Hold the Discipline

The mechanical part matters as much as the ranking: buy a basket of the top-ranked names — commonly twenty to thirty — rather than picking favorites, and rebalance on a fixed annual schedule rather than reacting to news. Greenblatt's own research found the formula underperforms in roughly one year out of three or four, often for stretches long enough to test conviction; his argument is that this discomfort is the reason it keeps working — a rule simple enough to beat the market attracts followers only until it stops being uncomfortable to hold. Rebalancing on a fixed calendar date rather than a discretionary one removes the temptation to time entries and exits around recent performance, which is exactly the impulse that costs most systematic-formula investors their edge.

How Closelook Uses It

The Closelook Company Score generalizes the same instinct across seven modules instead of two, but keeps Greenblatt's core discipline: valuation and quality are scored separately and never blended into one opaque number that hides which half of the story is doing the work. The Piotroski F-Score's parallel treatment of fundamental quality echoes the same separation — a quality checklist that stands on its own rather than getting folded into a valuation multiple. Reading the two Closelook modules side by side, cheap-and-improving versus cheap-and-deteriorating, is the modern equivalent of Greenblatt's own combined rank, just spread across more inputs. The point of keeping them apart, exactly as Greenblatt kept his two ratios apart, is that a reader can still ask the formula's original question — cheap, good, or both — instead of trusting a single number to have already answered it.