Joel Greenblatt is no magician, but the founder of New York-based Gotham Asset Management does have a magic formula for investing. In 2005, Greenblatt, who also has been teaching at Columbia Business School for the past 17 years, published The Little Book That Beats the Market, which explains how investors can outperform market averages by following a simple process of investing in good companies at bargain prices. The ‘Magic Formula,’ as Greenblatt termed it, was about seeking out companies with high return on invested capital, and which could be purchased at a low price. The strategy produced back-tested returns of 30.8% per year from 1988 through 2004, more than double the S&P 500’s 12.4% return over the same period. What better proof than eating your own cooking, Greenblatt’s private investment partnership has logged a 40% annualised return since its inception in 1985.
How did your career in investing come about and which phases were particularly insightful?
It was during my college days in the late 1970s that I first got interested in investing when I read an article on Benjamin Graham. The article outlined how he had this formula to beat the market, provided an explanation of his thought process, and described “Mr Market” a little bit. I read that article and thought: “Boy, this finally makes some sense to me.” That’s when I started reading all I could about Graham and also read about Buffett and his letters. What struck a chord with me was the logic of figuring out you were buying a piece of business and paying a lot less than its actual worth. What they taught in the business school for fundamentals was that this [paying a price less than its actual worth] couldn’t be done and that it’s not worth the time trying to beat the market. I am glad I listened to my reading. It made much more sense to me, given what I had observed about how emotional the market is over the short term. Just sitting around and hanging around for three months, it was pretty obvious that the market wasn’t quite as efficient as my professors were telling me. I think I have pursued a career following that philosophy since then.