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Value Investing: All Roads Lead to Rome

236 views  2013-04-04 09:46   TagsInvestment  Ben  Magic  Joel  Greenblatt 

I read an article this morning by John Mihaljevic, who runs the excellent ManualofIdeas.com. His article was called Value Investor or Value Pretender: Which are You?  The article is written in tongue-in-cheek fashion using 10 points that might tell you if you're not a true value investor. David Merkel, fellow blogger and excellent value investor, then wrote an interesting counterpoint at his Aleph Blog.

I got to thinking how it's interesting how two value investors who both write about the same principles have many opposite opinions on certain tactics and strategies within the broader value investing context. To be a successful investor, there are certain principles that we all must follow, but within the framework of those principles, there are many different methods that can yield successful results. Look at how different the styles of Ben GrahamWarren Buffett, Charlie Munger, Peter Lynch, Joel GreenblattWalter Schloss were to name a few.

Great investor Michael Burry once commented that he decided that there is no single correct way to practice investing. He mentioned that if there was one easily replicable investment method that could be taught in business school, the tuition for that school would be infinitely high. He noticed how Buffett learned from Graham, but then created his own style. Burry himself studied Graham and Buffett, but used his own independent thinking to form his own unique style, which ended up with him famously making a fortune from the subprime mortgage crises.

Both an Art and a Science

I personally believe that the investment practice has elements of both art and science. There are some practitioners such as Joel Greenblatt's Magic Formula that are mostly scientific, and there are more subjective (read: artistic) investors that rely on a combination of hard data, facts, judgment, and their experience (such as Warren Buffett or Peter Lynch).

I think that even the most quantitative investors such as Ben Graham had elements of subjectivity in their investment operations. As Irving Kahn said in an interview I just summarized, (paraphrasing) "Investing has to be an art. Otherwise kids with computers could easily replicate successful results".

So I think that even quantitative methods like Greenblatt's formula or Graham's formula has to be implemented using the proper emotional foundation. What I mean by this is that to successfully execute a purely "scientific" strategy, you still have to have a firm understanding of value investment principles, and you also have to have the proper emotional discipline to stick with the strategy when it's not working during certain periods.

This is very difficult to do, especially if you don't have a proper conceptual foundation of value investment principles and human behavior. Greenblatt says his formula for investing works over the long term, but there are periods of 1-3 years where it might underperform the market. This is precisely why such a strategy will continue to work over the long term.

All Roads Lead to Rome

There are many ways to reach the finish line in investing, and it is interesting to notice and learn from the various methods. In the end, we must synthesize these various ideas into our own style that matches our own unique skillsets and emotional makeup.

I think individual investors can outperform the market if they study value investment principles, implement a simple, diversified strategy like Graham's or Greenblatt's, and then (the hard part), stick to it when times are difficult. The good news is that we can study the results of investors who have practiced these methods for 50 years or more, and notice that this discipline can pay huge dividends over time.

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