We recently published a list of 10 Best Magic Formula Stocks for 2025. In this article, we are going to take a look at where Alphabet Inc. (NASDAQ:GOOGL) stands against other best magic formula stocks for 2025.
The Magic Formula, as defined by Joel Greenblatt in his book The Little Book that Beats the Market, entails evaluating companies based on two metrics: earnings yield (EBIT/enterprise value) and return on capital. Greenblatt is one of the few fund managers who have regularly achieved double-digit percentage returns during their careers on Wall Street. His former business, Gotham Capital, had an incredible run from 1985 until 1994. During this time, the fund generated a net return of 34%. That said, even he was conscious that this method seemed too wonderful and easy to be true, which is why, throughout his book, he frequently questions the reader: what is the assurance, if any, that this investment technique genuinely works and is not just a fluke? In any case, he frequently underlines that the Magic Formula investment technique does not encourage investing in firms with average or low return on capital since the strategy creates a rating system to identify top companies with the best return on capital and earnings yield.
However, like with any method, there is some risk involved, and the Magic Formula does not ensure success. Since the strategy is based on past data, it’d be difficult to say if it could work well in the future, especially if market conditions change. Incidentally, a backtest of market performance from 2003 to 2015 found that the Magic Formula approach produced annualized returns of 11.4%, while the S&P 500 produced returns of 8.7%, thus failing to live up to Greenblatt’s inflated claims despite beating the benchmark. Greenblatt himself admits that the Magic Formula fails in many cases and performs poorly in some others, particularly when the holding time is too short. The investor stated the following:
“Most people just won’t wait that long. Their investment time horizon is too short. If a strategy works in the long run (meaning it sometimes takes three, four, or even five years to show its stuff), most people won’t stick with it. After a year or two of performing worse than the market averages (or earning lower returns than their friends), most people look for a new strategy— usually one that has done well over the past few years. Even professional money managers who believe their strategy will work over the long term have a hard time sticking with it.”
More recently, however, Joel Greenblatt’s fund appears to have lagged behind the overall market as a result of his investment strategy. As of the end of January, the Gotham Large Value Fund (GVALX) has only returned 10.86% over the last five years, while the S&P 500 has returned 15.17%. Nonetheless, the Magic Formula is one of many investment strategies that investors can opt for as they navigate the stock market.
Our Methodology
To make our list of the best Magic Formula stocks, we ranked the stocks in Gotham Asset Management’s Q4 2024 SEC filings by their stake value and picked out the most valuable holdings.
Why are we interested in the stocks that hedge funds pile into? The reason is simple: our research has shown that we can outperform the market by imitating the top stock picks of the best hedge funds. Our quarterly newsletter’s strategy selects 14 small-cap and large-cap stocks every quarter and has returned 373.4% since May 2014, beating its benchmark by 218 percentage points (see more details here).
A user’s hands typing a search query into a Google Search box, emphasizing the company’s search capabilities.
Alphabet Inc. (NASDAQ:GOOGL)
Number of Hedge Fund Holders: 234
Gotham Asset Management’s Q4 2024 Stake: $74.67 million
Alphabet Inc. (NASDAQ:GOOGL) is a global technology giant known for its diverse products, including Google Cloud and Google Services, which dominate a number of market segments. Recently, Alphabet and Taiwan’s HTC agreed to invest $250 million to strengthen their position in XR (extended reality) technology. This comes after Google released the Android XR platform back in December, which was created in collaboration with Qualcomm and Samsung Electronics.
Needham analyst Laura Martin retained a Buy rating and a price target of $225 on GOOGL shares on February 5. Martin cited the company’s impressive 12% year-over-year revenue growth in Q4 2024, which was primarily driven by strong performance in Google Search and Cloud. The company’s cloud division also saw a 30% increase in revenue due to strong demand for AI-powered solutions and strategic deals worth over $1 billion.
Oakmark Funds stated the following about Alphabet Inc. (NASDAQ:GOOGL) in its Q4 2024 investor letter:
“Alphabet Inc. (NASDAQ:GOOGL) was the top contributor during the quarter. Despite ongoing litigation with the Department of Justice in its antitrust case, the U.S.-headquartered interactive media and services company’s stock price rose after posting solid third-quarter earnings. In the Search division, the company generated low-teens year-over-year revenue growth and management highlighted that they’re seeing strong user engagement with their new AI Overviews feature. The biggest upside surprise came from the Cloud division, where revenue growth accelerated to 35% and margins reached a record of 17%. This performance was driven by client demand for AI Infrastructure and Generative AI Solutions as well as core Google Cloud Platform (GCP) products. We continue to believe Alphabet is a collection of great businesses that can unlock further value over the long term through its world-class AI capabilities.”
Overall, GOOGL ranks 5th on our list of best magic formula stocks for 2025. While we acknowledge the potential of GOOL, our conviction lies in the belief that certain AI stocks hold greater promise for delivering higher returns, and doing so within a shorter time frame. If you are looking for an AI stock that is more promising than GOOGL but that trades at less than 5 times its earnings, check out our report about the cheapest AI stock.
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Disclosure: None. This article is originally published at Insider Monkey.