Thursday, October 8, 2009

Joel Greenblatt on the Process of Valuation

1. While studying the footnotes is crucial, the big picture is most important: Earnings yield and ROIC are the two most important factors to consider, with the key being figuring out normalized earnings.

2. High earnings yield, based upon normalized earnings, is important in order to have a margin of safety. High ROIC (again based on normalized earnings) simply tells you how good a business it is.

3. Independent thinking, in-depth research, and the ability to persevere through near-term underperformance, are three keys to being a successful value investor.

4. Worrying about near-term volatility has nothing to do with being a successful value investor.

5. Think of a concentrated portfolio as if you lived in a small town and had $1 million to invest. If you have carefully researched to find the best 5 companies, the risk is minimal (As Charlie Munger says, "The way to minimize risk is to think.")

6. Special situations are just value investing with a catalyst.

7. International investing may offer the best opportunity, at least in terms of cheapness.

8. Finding complicated situations that no one else wants to do the work to figure out is a way to gain an advantage. (You have discussed and given examples of many such situations in your book, You Can Be a Stock Market Genius.)

9. Looking at the numbers best way to learn about management. What have they done with the cash? What are the incentives? Is the salary too high? Is there heavy insider selling? What is their track record?

10. Focus on understanding and buying good businesses on sale, and don't worry about the macro economy. Everything is cyclical, so value can always be found somewhere.

11. Focus on situations that are not of interest to big players (usually small- and mid-cap, although currently large caps are cheap; spin-offs may be such opportunities, but the key is to figure out the interests of insiders; bankruptcies, restructurings, and recapitalizations may also be such opportunities).

12. Trust no one over 30, and no one under 30; must do your own work, rather than simply ride coat-tails.

13. Risk is permanent loss of invested capital, and not any measurement of volatility developed by statisticians or academicians.

14. All investing is value investing and to make a distinction between value and growth is meaningless.