In a recent interview with The Wall Street Journal, Joel Greenblatt—described as “maybe the best-known value investor this side of Warren Buffett,” shared insights on the subject of value investing and the strategy’s near decade-long struggle with underperformance.
Here are some highlights:
· On his definition of value investing, Greenblatt clarifies, “It does not mean low price-to-book-value, low price-to-sales ratio investing, which is how most people define it.” If you think about stocks as shares of businesses, he argues, then value investing is really assigning values to businesses based on their cash flow and expected cash flows and then trying to purchase them at a discount to what those streams are worth.
· The key, says Greenblatt, is in the analysis and valuation of these businesses. “We do a lot of analytical work to make sure the numbers we use are correct. Reported numbers don’t mean as much to us as drilling down and seeing real cash flows and the company’s efficiency of investing money and spending money.”
· According to Greenblatt, “in 80% or 90% of the cases, two or three years is enough time for the market to recognize the value of a business if you’ve done a good job valuing it.”
· The market is relatively expensive right now, says Greenblatt, but that doesn’t mean it’s a bad time to invest but rather that “if the market has averaged 10% returns over the last 28 years, we would expect lower than that. It works out to closer to 4% of 5%. That’s still positive, and buying the cheapest stocks in the S&P 500, we would expect to do better than that.”
· Greenblatt thinks most people should index because the majority is not very good at valuing businesses, “and they’re not very good at picking managers—another hard art—so they’re left between a rock and a hard place.”
· Valuing a business is difficult, Greenblatt explains: “Most people don’t have the ability to value a business at a discount and the discipline to hold them. When people can check their returns 30 times a minute on the internet, time horizons shrink, investors are impatient and sell at any sign of underperformance, so they fail to participate in periods of overperformance.”
· On the current market environment, Greenblatt says it’s a good time for patient value investors but adds that “patience is the thing in short supply.”