Joel Greenblatt is known both for running a hedge fund with an incredibly strong track record, nearly 40% average yearly returns over two decades, and for popularizing his value approach among individual investors with best sellers You Can Be A Stock Market Genius and The Little Book That Beats The Market. But after all that success, he’s changing the way he runs his funds to make the ups and downs easier for people to swallow.
“With the concentrated hedge fund strategy we made very high returns over a long period of time and I was okay with the volatility because I knew the underlying securities very well,” said Greenblatt in an interview in the March 31 issue of Value Investor Insight. “We’re still fundamental value investors and I expect very good long-term returns, but the ups and downs should be much less severe. That means people are more likely to stick with it, which should turn out far better for them in the long run.”
In regards to his old approach, Greenblatt noted that:
“Every two or three years we could lose 20-30% of our net worth over a very short period of time,” stating further “that’s what happens when you run a concentrated book.”
Greenblatt’s discount-weighted approach
Greenblatt’s new approach is to create a less concentrated portfolio of long and short positions. His research team determines valuations for the 2000 largest US companies by market cap, and then lists them according to their current discount – number 1 has the highest discount, and number 2000 has the highest premium. Using that list, and weighting positions according to the amount that each stock is discounted, Greenblatt creates the net position appropriate for each fund. The Enhanced Return Fund has 100% net long exposure, usually around 170% long and 70% short; the Absolute Return Fund has a 70% net long exposure, and the Neutral Fund has roughly equal exposure, as the name implies.
Greenblatt warns that he doesn’t think the three funds should be used for timing the market, mostly because he doubts most individual investors have the background to do it well, but should be chosen based on the role it plays in their portfolio.
Helping people help themselves
It’s interesting that Greenblatt is making such a clear concession to human nature, giving people a product that presumably offers lower returns over time, but isn’t quite so gut wrenching along the way. But for someone who has made a career out of price inefficiencies, Greenblatt is acutely aware that investors can be their own worst enemies. Making it easier for them to do the right thing may be the best strategy for him to benefit his clients.
How would Greenblatt do it if he were starting out today? He would use the old approach. Greenblatt states:
“Were I starting out again, I’d do it exactly the same as before.” However, Greenblatt notes that “the approach now is probably the better strategy for most people, stating further that because of the low volatility, diversified approach “people are more likely to stick with it, which should turn out far better for them in the long run.”