Joel Greenblatt on the Magic Formula of Value Investing

Joel Greenblatt made his name in value investing. He is a professor at Columbia business school and the author of the New York Times best seller, the little book that beats the market. If someone follows what was written in that book, about the value investing magic formula, that someone would be doing much better. The host asks him what is the secret laid out in that book. He says that the secret is very simple, it is really basic value investing. They are looking for cheap companies, at last year's earnings. The other thing they want to do is to buy good companies, so they are looking for companies that earn a high return on capital, and this is also measured by last year's earnings. So, if you combine those two - good and cheap - you end up buying a portfolio of companies that on average do very well over time.

The great thing about his magic formula is that it is not very great, meaning that there are periods of time, two or three years sometimes, or could be longer sometimes, when the formula performs on the market. And people usually give up on a formula that performs just for that period. The formula is for him so incredibly over the last ten years, but during those ten years there were two periods, one of three years and another of over one year when the magic formula performed the market. This is a reason why people usually forget about the formula during a period of time.

You have to be a long term investor because you meet many popular stops over years. Joel Greenblatt says that if you buy one company or a portfolio of them, you cannot be sure how they are going to work out, you cannot know which of them is going to do well when you are buying them, and that is why if you are following statistical formulas like this one you really have to buy a basket of companies.

Joel Greenblatt quotes from this video:

  • In my case, the magic formula is still doing pretty well
  • Many people told me: "Thank you for the formula, but please, can you just do it for me?"
Submitted by YouTube Trader on Tue, 04/06/2010 - 18:45

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