While most index funds use a market-cap weighting and others use an economic-based fundamental weighting, hedge fund guru Joel Greenblatt says a “value-weighted” fund can be a better option.
In an interview with Morningstar, Greenblatt discusses his new book and his value-weighted funds. “We just took the logic that, if we can buy a stock at a bargain price that we want to own more of that one. So, instead of weighting by market cap or equally weighting or by economic size, we weight by how cheap we can buy a company,” he explains. “So, the bigger bargain that we find, the more we own of it.”
Greenblatt says he and his team put together an index of 800 to 1,000 of the largest U.S.-listed companies, weighting them according to the attractiveness of their values. He then rebalances the portfolio every day, “so that it’s constantly and continually rebalanced towards the cheapest stocks that we can find based on those simple [valuation] metrics.”
Greenblatt says that backtests for the past 20 years show that a value-weighted index beat a market cap-weighted index by about 6% a year, while having the same volatility and the same beta as a cap-weighted index.