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Joel Greenblatt on Value Weighted Indexing at Ira Sohn Conference Today

Joel Greenblatt is a managing principal and co-chief investment officer of Gotham Asset Management, LLC and the managing partner of Gotham Capital, which he founded in April 1985. Since 1996, he has been a professor on the adjunct faculty of Columbia Business School. Mr. Greenblatt serves on the Investment Boards for the University of Pennsylvania and UJA Federation, and is a director of Pzena Investment Management Inc. He is the former chairman of the board of Alliant Techsystems. Mr. Greenblatt is the author of "You Can Be a Stock Market Genius," "The Little Book That Still Beats the Market" and "The Big Secret for the Small Investor." He holds a BS and MBA from the Wharton School of the University of Pennsylvania.

From his talk:

Buying cheap and good companies (magic formula). It is a mixture of Benjamin Graham (cheap) and Warren Buffett (good business).

The S&P 500 over the last 20 years is up 9.1% per annum. However, the larger cap stocks have much more weighting. This is not an effective way to invest. Because as market caps go up you own more, and as the market goes down you own less of the company.

If the market was efficient this would be fine. However, since the market is not efficient this does not work so well.

You learn 2% due to these problems. Equally weighted S&P has returned 11.8% per annum over the past 20 years. Several companies like Wisdom Tree have put more weighting on value metrics, but it does the same as equally weighting.

It is very hard to index it because you have to put as much money in big stocks as in the small stocks, but the indexes have done pretty well.

What about a value index based on some simple value metrics?

Eight hundred to one thousand stocks based on value metrics have returned 16.1% over the past 20 years, with the beta being about the same. So it not only is a much higher return, but a higher risk adjusted return.

There are some problems, such as right now we are over earning. You can postulate that we had an Internet bubble, then housing bubble, and now government bubble. Margins have been at a much higher level over the past 20 years.

And the Russell 1000 also has had changes in the past 20 years, going from more manufacturing to more service companies. Also, the internet was not around which helps margins go lower. Also, outsourcing some capital intensive segments of business has lead to higher margins. So it is hard to tell if margins will regress to the mean.

However, return on capital should return to the mean. However, the chart over the past 20 years shows increasing returns on capital.

Tangible capital over sales has also gone down a lot over the past 20 years. How can the returns be so high in a capitalistic society?

One reason could be because there is much more competition, and the life cycle of companies have gotten shorter.

We are probably somewhere around fair value now.

WLP, HUM, AGP, CVH, AET are still screening very cheap. Everyone hates these companies because healthcare is out of favor.

The drug companies have their issues.

You would think things have gotten worse for investors because data is much more accessible and there are thousands of hedge of funds.

In the late 1980s, I got involved with a fund of fund. Greenblatt was down 1.1% in one month. The fund called him and said the average fund was up 1.2% last month, why did you underperform?

So taking a long term horizon, it still has gotten better to invest now.

Disclosure: Long WLP and HUM

http://www.valuewalk.com/

About the author:

Jacob Wolinsky
My investment ideas have been inspired by many of value investors including Benjamin Graham, Charles Royce, John Neff, Joel Greenblatt, Peter Lynch, Seth Klarman,Martin Whitman and Bruce Greenwald. .I live with my wife and daughter in Monsey, NY. I can be contacted jacobwolinsky(AT)gmail.com and my blog is www.valuewalk.com

Visit Jacob Wolinsky's Website


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