The little book that beats the market.
I first mentioned about this book in my posting here on Jan 20, 2007. Let me briefly talk about why I think this is a great book and how I would like to use it for option trading. As per the screening on Feb 3, for >100million market cap, Fording Canadian Coal Trust (FDG) is amongst one of the TOP 25 companies. Here are the key points about FDG:
- Market Cap > $3.3 billion
- Pre-Tax Earnings Yield : 20%
- Return on Capital (ROC) > 100%
I didn’t penetrate into further details on how these numbers are calculated but I am assuming that system works and it’s correct. Though past performance is not indicative of future, just look at the past 5yr chart of the company.
Let’s dive in how to use it- According to Magic formula investing (The little book that beats the market) I shall assume that over a period of time, the price should go up assuming fundamentals, yields remains same. If I buy either diagonal leaps spread or calendars, I should be able to create something that will give me gains from Theta or delta. So Here I created 3 calendar spreads of $20/$22.5/$25 for $270 investment.
And Look at the beauty of this trade, depending upon where FDG is by Feb expiration your returns may vary from $40 to $98 on $270 investment. And mind it, this is only 1 month. You can continue to benefit from this till next year.
Simple concept, difficult to manage. One need to understands Option greeks and adjustments to manage the trade. Those are the key points that one needs to understand thoroughly before enjoying this so that you don’t lose money. However, my point here was to show how this book can be used. One needs to read through it to understand better the foundation of “stock screen” for this strategy.