Investing has changed an awful lot over the last century. Warren Buffett (Trades, Portfolio) likes to say that he went through the whole Moodyâs manual in his quest to find the best value businesses back when he was starting his career. It should be no surprise to anyone that with the proliferation of quantitative trading, big data and the internet, this strategy is probably not going to work with todayâs large-cap stocks. Similarly, you probably arenât going to be able to replicate Benjamin Grahamâs success by investing in companies that are trading below book value.
Thereâs definitely an argument that these changes have made it harder for the little guy to succeed. It used to be that when things moved slowly, individuals working with small amounts of money and doing their own research were able to keep up with professionals. Now, when competing on the basis of speed is no longer possible, retail investors need to look elsewhere.
Pockets of opportunity
Since most people agree that an edge is hard to come by these days, are there still pockets of opportunity out there? Joel Greenblatt (Trades, Portfolio) thinks so. During a recent talk he did at Google, Greenblatt discussed "obscure places":
âIf youâre very good you can buy some of these things in obscure place and what I would call it is âtaking unfair betsâ. Not because youâre so smart, but because you found it in a place where other people arenât looking. What happens to people who get good at that is that they make a lot of money and they canât do that anymore! So it opens a whole new area for younger people.â
Greenblatt gave the example of spinoffs as a segment of the market which contains such opportunities. According to him, on average, spinoffs outperform the broader indexes. Moreover, those averages obscure some much more lucrative opportunities, where a company is being "discarded" for reasons that donât have anything to do with the intrinsic value of the business.
What reasons might these be? In some cases, the business unit being spun off is simply too small to interest the core company. Itâs a good business, but it doesnât make sense to exist as a component of a larger company. These types of companies are often priced below intrinsic value because they are underfollowed by analysts, or because the analysts that followed their parent companies do not follow them.
Another reason why spinoffs are often undervalued is investors tend to panic-sell them after assuming that the divestment occurred because the spun off business was in some way inferior. In reality, this is not always the case - for instance, AbbVie (ABBV, Financial) was spun off of Abbott Laboratories (ABT, Financial) and has returned more than 150% for its shareholders since 2013. As this example illustrates, spinoffs can be quality businesses, so analysts should approach them as such.
Disclosure: The author owns no stocks mentioned.
Read more here:
- The Role of Emotion in Investing
- Joel Greenblatt on His Biggest Mistake
- Warren Buffett: Complex Accounting Is a Warning Sign
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