The Little Book That Still Beats the Market - Joel Greenblatt - E-Book

The Little Book That Still Beats the Market E-Book

Joel Greenblatt

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Beschreibung

In 2005, Joel Greenblatt published a book that is already considered one of the classics of finance literature. In The Little Book that Beats the Market--a New York Times bestseller with 300,000 copies in print--Greenblatt explained how investors can outperform the popular market averages by simply and systematically applying a formula that seeks out good businesses when they are available at bargain prices. Now, with a new Introduction and Afterword for 2010, The Little Book that Still Beats the Market updates and expands upon the research findings from the original book. Included are data and analysis covering the recent financial crisis and model performance through the end of 2009. In a straightforward and accessible style, the book explores the basic principles of successful stock market investing and then reveals the author's time-tested formula that makes buying above average companies at below average prices automatic. Though the formula has been extensively tested and is a breakthrough in the academic and professional world, Greenblatt explains it using 6th grade math, plain language and humor. He shows how to use his method to beat both the market and professional managers by a wide margin. You'll also learn why success eludes almost all individual and professional investors, and why the formula will continue to work even after everyone "knows" it. While the formula may be simple, understanding why the formula works is the true key to success for investors. The book will take readers on a step-by-step journey so that they can learn the principles of value investing in a way that will provide them with a long term strategy that they can understand and stick with through both good and bad periods for the stock market. As the Wall Street Journal stated about the original edition, "Mr. Greenblatt...says his goal was to provide advice that, while sophisticated, could be understood and followed by his five children, ages 6 to 15. They are in luck. His 'Little Book' is one of the best, clearest guides to value investing out there."

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Table of Contents
Title Page
Copyright Page
Dedication
Acknowledgments
Foreword
Introduction
Introduction to the Original Edition
Chapter One
Chapter Two
Chapter Three
Chapter Four
Chapter Five
Chapter Six
Chapter Seven
Chapter Eight
Chapter Nine
Chapter Ten
Chapter Eleven
Chapter Twelve
Chapter Thirteen
Step - by - Step Instructions
Afterword to the 2010 Edition
Appendix
Copyright © 2010 by Joel Greenblatt. All rights reserved
Published by John Wiley & Sons, Inc., Hoboken, New Jersey
Published simultaneously in Canada
No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording, scanning, or otherwise, except as permitted under Section 107 or 108 of the 1976 United States Copyright Act, without either the prior written permission of the Publisher, or authorization through payment of the appropriate per-copy fee to the Copyright Clearance Center, Inc., 222 Rosewood Drive, Danvers, MA 01923, (978) 750-8400, fax (978) 750-4470, or on the web at www.copyright.com. Requests to the Publisher for permission should be addressed to the Permissions Department, John Wiley & Sons, Inc., 111 River Street, Hoboken, NJ 07030, (201) 748-6011, fax (201) 748-6008, or online at http://www.wiley.com/go/permissions.
Limit of Liability/Disclaimer of Warranty: While the publisher and author have used their best efforts in preparing this book, they make no representations or warranties with respect to the accuracy or completeness of the contents of this book and specifically disclaim any implied warranties of merchantability or fitness for a particular purpose. No warranty may be created or extended by sales representatives or written sales materials. The advice and strategies contained herein may not be suitable for your situation. You should consult with a professional where appropriate. Neither the publisher nor author shall be liable for any loss of profit or any other commercial damages, including but not limited to special, incidental, consequential, or other damages.
For general information on our other products and services or for technical support, please contact our Customer Care Department within the United States at (800) 762-2974, outside the United States at (317) 572-3993 or fax (317) 572-4002.
Wiley also publishes its books in a variety of electronic formats. Some content that appears in print may not be available in electronic books. For more information about Wiley products, visit our web site at www.wiley.com.
ISBN 978-0-470-62415-9 (cloth); 978-0-470-92671-0 (ebk); 978-0-470-92672-7 (ebk)
To my wonderful wife, Julie, and our five magnificent spin-offs
Acknowledgments
I AM GRATEFUL TO THE MANY FRIENDS, colleagues, and family who have contributed to this project. In particular, special thanks are due to my partners at Gotham Capital, Rob Goldstein and John Petry. Not only are they the true coauthors of the Magic Formula study that appears in this book, but it is also a rare privilege to be associated with such brilliant, talented, and generous people. Their contributions to this book—and to the success of Gotham Capital—cannot be overstated and are appreciated more than they know. I would also like to give special thanks to Edward Ramsden at Caburn Capital for his extraordinarily insightful comments, suggestions, and editing work; to Norbert Lou at Punchcard Capital, particularly for his inspiration and suggestions for Chapter 9; and to Patrick Ede at Gotham Capital for his major contributions to the Magic Formula study, for his intelligent and helpful comments, and for his editing talents. In addition, my brother, Richard Greenblatt at America Capital, deserves a major part of the credit for being my editor-at-large, for his many good ideas, for his numerous contributions to each chapter, and especially for his encouragement with this project and throughout my life.
I am also grateful for the many helpful contributions and inspiration provided by Dr. Sharon Curhan (my sister, and my favorite artist), Dr. Gary Curhan, Joshua Curhan, Justin Curhan, Linda Greenblatt Gordon at Saddle Rock Partners, Michael Gordon, Bryan Binder at Caxton Associates, Dr. Susan Binder, Allan and Mickey Greenblatt (my wonderful parents), Dr. George and Cecile Teebor (the famous in-laws), Ezra Merkin at Gabriel Capital, Rod Moskowitz, John Scully, Marc Silbert, David Rabinowitz at Kirkwood Capital, Larry Balaban, Rabbi Label Lam, Eric Rosenfeld at Crescendo Partners, Robert Kushel (my broker at Smith Barney), Dan Nir at Gracie Capital, Brian Gaines at Springhouse Capital, Bruce Newberg (who got me started), Matthew Newberg, Rich Pzena at Pzena Investment Management, and Adam Barth, David Pecora, and Yury Kholondyrev at Gotham Capital. Special thanks to David Pugh, my editor at John Wiley, and Sandra Dijkstra, my literary agent, for their encouragement and enthusiastic support of this project. Thank you also to Andrew Tobias for graciously writing the foreword and for being a good friend.
I would also like to thank my two oldest children, Matthew and Rebecca Greenblatt, for being willing students and readers (and for laughing at most of the jokes). To my three youngest children, Melissa, Jonathan, and Jordan, thank you for your inspiration. And to all the kids, thank you for the joy you bring each day. Thank you also to my beautiful wife, Julie, for her sage advice with this book, and in life, for her love and support and for each precious day together.
Foreword
THE BEST THING ABOUT THIS BOOK—from which I intend to steal liberally for the next edition of The Only Investment Guide You’ll Ever Need—is that most people won’t believe it. Or, believing it, won’t have the patience to follow its advice. That’s good, because the more people who know about a good thing, the more expensive that thing ordinarily becomes . . . bye-bye bargain.
Yet unlike most “systems” meant to exploit anomalies in the market, Joel Greenblatt’s simple notion will likely retain at least a good deal of its validity even if it becomes widely followed.
I don’t want to spoil the surprise—the book is short enough as it is. My role here is simply to introduce you to the author, so you have some sense of just how far you can trust him.
I’ve known Joel for decades. He is really smart, really modest, really well intentioned, and—here is the unusual part—really successful. (I mean: really successful.)
More to the point, his success has come from shrewd investing (not from selling books).
He is also funny. I read the first couple of chapters of this book to my 11-year-old nephew, Timmy, and we both enjoyed it. Timmy, with no investable funds that I know of, then fell asleep as I raced to the end, mentally rejiggering my retirement plan.
Let me tell you this much: In the beginning, there were mutual funds, and that was good. But their sales fees and expenses were way too high. Then came no-load funds, which were better. They eliminated the sales fee, but were still burdened with management fees and with the tax and transactional burden that comes from active management. Then came “index funds,” which cut fees, taxes, and transaction costs to the bone. Very, very good.
What Joel would have you consider, in effect, is an index-fund-plus, where the “plus” comes from including in your basket of stocks only good businesses selling at low valuations. And he has an easy way for you to find them.
Not everyone can beat the averages, of course—by definition. But my guess is that patient people who follow Joel’s advice will beat them over time. And that if millions of people should adopt this strategy (Vanguard: please hurry up and offer a low-priced fund like this), two things will happen. First, the advantage of investing this way will diminish but not disappear. Second, stock market valuations will become ever so slightly more rational, making our capital allocation process ever so slightly more efficient.
Not bad work for a skinny little book.
Now, gather ye what 11-year-olds ye may, and dive in.
—Andrew Tobias, author of
The Only Investment Guide You’ll Ever Need
Introduction to the 2010 Edition
WELL, IT’S BEEN MORE THAN FIVE YEARS since I wrote the original edition of The Little Book That Beats the Market. While I very much enjoyed writing the book, I wasn’t expecting much. My first book, written in the 90s, was only a modest success (which is to say it bombed pretty badly). Only one publisher (thank you, David Pugh at Wiley!) was willing to publish my next attempt, which turned out to be the first edition of The Little Book. With a microscopic advance payment (darn you, David Pugh at Wiley!), and after factoring in agent fees, taxes, and the usual shipping and handling charges, I didn’t expect to lose too much on the effort. To my happy surprise, the book ended up selling 300,000 copies worldwide and has now been translated into 16 different languages (15½ of which, unfortunately, I do not understand).
My goal in writing the book was fairly straightforward. The world of finance, particularly the stock market part, is intimidating to many people. Yet, investment decisions obviously play a huge role in determining future security, retirement options, and the ability to provide for loved ones. Since the stock market is such an important component in most people’s investment portfolios, I wanted to write a short, accessible guide that not only explained things in language that even my kids could understand but also provided a great option for many investors.
Shortly after finishing the first edition of The Little Book, though, I had a bit of a panic attack. What if individual investors actually followed my advice? What if they believed and understood the logic of the “magic formula” provided in the book but then didn’t calculate the formula correctly or used poor data sources found free on the Internet? I had visions of a dad or grandma I was trying to help actually ending up losing some of their hard-earned savings by not having the proper resources to implement the strategy. So, we quickly put together magicformulainvesting.com as a free resource for readers of the book that both did the calculations correctly and used a high-quality source for the data. This resource remains free, and I sincerely hope that in conjunction with reading and understanding the book, it will continue to serve as a great help to past and future readers. At the very least, having the web site gave me one less thing to worry about over the last five, often interesting, years.
Investing is hard. That’s why having a disciplined, methodical, long-term investment strategy that makes sense is essential to making it through and being successful in almost any market environment. But it can’t just make sense; it must make sense to you. Having a deep understanding is the only way to stick with a long-term strategy that might not work over shorter time periods.
Toward that goal, I have added an Afterword to this 2010 edition. The Afterword discusses events, results, and lessons learned since the original edition was published in 2005. And the good news is this: Things often have a way of looking a bit different than we’ve seen before (and sometimes they even might be!). It’s just that the lessons and the principles from the original Little Book remain the same. Nevertheless, it’s always helpful to review and learn them again. I hope this addition to this edition helps. Good luck.
Introduction to the Original Edition
THIS BOOK WAS ORIGINALLY INSPIRED by my desire to give each of my five children a gift. I figured if I could teach them how to make money for themselves, then I would be giving them a great gift—truly one that would keep giving. I also figured that if I could explain how to make money in terms that even my kids could understand (the ones already in sixth and eighth grades, anyway), then I could pretty much teach anyone how to be a successful stock market investor.
While the concepts covered in this book may seem simple—perhaps too simple for sophisticated investors—each step along the way is there for a reason. Stay with it, and I assure you the payoff for both beginning and experienced investors will be huge.
After more than 30 years of investing professionally and after 14 years of teaching at an Ivy League business school, I am convinced of at least two things:
1. If you really want to “beat the market,” most professionals and academics can’t help you, and
2. That leaves only one real alternative: You must do it yourself.
Luckily, that might not be such a bad thing. As improbable as it may seem, you can learn to beat the market. Through a simple, step-by-step process, this book can teach you how. To help you along, I have included a magic formula. The formula is simple, it makes perfect sense, and with it, you can beat the market, the professionals, and the academics by a wide margin. And you can do it with low risk. The formula has worked for many years and will continue to work even after everyone knows it. Although the formula is easy to use and will not take much of your time, it will work for you only if you make the effort to fully understand why it works.
Along the way, you will learn:
• How to view the stock market
• Why success eludes almost all individual and professional investors
• How to find good companies at bargain prices
• How you can beat the market all by yourself
I have included an Appendix section for those of you with a higher level of financial training, but it is not necessary for people to read or understand the appendixes to be able to understand and apply the methods found in this book. The truth is that you don’t need an MBA to beat the market. Knowing lots of sophisticated formulas or financial terms isn’t what makes the difference. Understanding the simple concepts in this book . . . is.
So please enjoy this gift. May the small investment of time (and 20 bucks or so) greatly enrich your future. Good luck.
Chapter One
JASON’S IN THE SIXTH GRADE, and he’s making a fortune. My son and I see him almost every day on the way to school. There’s Jason in the back of his chauffeur-driven limousine, all decked out in cool clothes and dark sunglasses. Ahhh, to be 11 years old, rich, and cool. Now that’s the life. Okay, maybe I’m getting a little carried away. I mean, it’s not really a limousine; it’s kind of a scooter. And the cool clothes and sunglasses part, well, that’s not really true, either. It’s more like his belly hanging over a pair of jeans, no sunglasses, and what he had for breakfast still stuck to his face. But that’s not my point. Jason’s in business.
It’s a simple business, but it works. Jason buys gum, four or five packs a day. It’s 25 cents for a pack and five sticks of gum to a package. According to my son, once in school, Jason transforms himself into a superhero of sorts. Neither rain nor sleet nor evil hall monitors can keep Jason from selling his gum. I guess his customers like buying from a superhero (or maybe they’re just stuck in school), but however he does it, Jason sells each stick of gum for 25 cents. (Supposedly—I’ve never actually seen it myself—Jason kind of shoves an open pack of gum into a potential customer’s face and repeats “You want some, you know you want some!” until his fellow student either collapses or forks over a quarter.)
The way my son has it figured, that’s five sticks at 25 cents each, so Jason rakes in $1.25 for each pack he sells. At a cost of 25 cents per pack, that means Jason is making $1 of pure profit on every pack he can shove . . . I mean, sell. At four or five packs a day, that’s a lot of money! So after one of our daily Jason sightings, I asked my sixth-grader, “Gee, how much do you think this guy Jason can make by the end of high school?” My son—we’ll call him Ben (even though his real name is Matt)—started whizzing through the calculations using all his brainpower (and a few fingers). “Let’s see,” he replied. “That’s, say, four bucks a day, times five days a week. So, $20 a week, 36 weeks of school, that’s $720 a year. If he has six years left until he graduates, that’s somewhere over $4,000 more he’ll make by the end of high school!”
Not wanting to miss an opportunity to teach, I asked, “Ben, if Jason offered to sell you half of his business, how much would you pay? In other words, he’ll share half his profits from the gum business with you over the six years until he graduates, but he wants you to give him money now. How much would you give him?”
“Well . . .”—I could see Ben’s wheels start to turn now that there might be some real money on the line—“maybe Jason doesn’t sell four or five packs a day, but three packs—that’s a pretty safe bet. So maybe he makes three bucks a day. That’s still $15 in a five-day school week. So, 36 weeks in a school year, that’s 36 times 15 (I might have helped a little in here), that’s over $500 a year. Jason has six more years of school, so 6 times $500 is $3,000 by the time he graduates!”
“Okay,” I said, “so I guess you’d pay Jason $1,500 for half of those profits, right?”
“No way,” Ben answered quickly. “First, why should I pay $1,500 to get back $1,500? That doesn’t make any sense. Besides, the $1,500 I get from Jason will take six years to collect. Why would I give him $1,500 now to get back $1,500 over six years? Also, maybe Jason does a little better than I figure and I get more than $1,500, but he could do worse, too!”
“Yeah,” I chimed in, “maybe other kids start to sell gum in school, and Jason has so much competition he can’t sell as much.”
“Nah, Jason’s practically a superhero,” Ben says. “I don’t think anyone can sell as well as Jason, so I’m not too worried about that.”
“So I see your point,” I responded. “Jason’s got a good business, but $1,500 is too much to pay for half. But what if Jason offered you half his business for $ 1 ? Would you buy it then?”
“Of course,” Ben shot back with a “Dad, you’re being an idiot” kind of tone.
“So, fine,” I said, ignoring the tone for a moment. “The right price is somewhere between $1 and $1,500. Now we’re getting closer, but how much would you pay?”
“Four hundred fifty bucks. That’s how much I’d pay today. If I collected $1,500 over the next six years, I think that would be a good deal,” Ben said, evidently pleased with his decision.
“Great!” I responded. “Now you finally understand what I do for a living.”
“Dad, what the heck are you talking about? Now I’m totally lost. I’ve never seen any gum!”
“No, Ben, I don’t sell gum. I spend my time figuring out what businesses are worth, just like we did with Jason’s business. If I can buy a business for a lot less than I think it’s worth, I buy it!”
“Wait a second,” blurted out Ben. “That sounds too easy. If a business is worth $1,000, why would anyone sell it to you for $500?”
Well, as it turned out, Ben’s seemingly reasonable and obvious question was actually the magic question that got this whole project started. I told Ben that he had just asked a great question, that believe it or not, there is a place where they sell businesses at half price all the time. I told him that I could teach him where to look and how to buy those bargains for himself. But, of course, I told him there was a catch.
The catch isn’t that the answer is incredibly complicated. It’s not. The catch isn’t that you have to be some kind of genius or superspy to find $1,000 bills selling for $500. You don’t. In fact, I decided to write this book so that Ben and his siblings could not only understand what I do for a living but also learn how to start finding these bargain investments for themselves. I figure whatever career they choose in the future (even if it’s not money management, a career I’m not necessarily encouraging), they’ll definitely need to learn how to invest some of their earnings.
But, like I told Ben, there is a catch. The catch is that you have to listen to a long story, you have to take the time to understand the story, and most important, you have to actually believe that the story is true. In fact, the story even concludes with a magic formula that can make you rich over time. I kid you not. Unfortunately, if you don’t believe the magic formula will make you rich, it won’t. On the other hand, if you believe the story I’m going to tell you—I mean really, truly believe—then you can choose to make money with or without the formula. (The formula will take significantly less time and effort than doing the “work” yourself, and will provide better results for most people, but you can decide which way to go when you’re done reading.)
Okay, I know what you’re thinking. What’s this belief stuff about? Are we talking about a new religion, maybe something to do with Peter Pan or The Wizard of Oz? (I won’t even bring up the witch-inside-the-crystal-ball thing that still scares the heck out of me, or the flying monkeys, mainly because neither has anything to do with my story.) And what about the getting rich part, what’s that? Can a book really teach you how to get rich? That doesn’t make sense. If it could, everyone would be rich. That’s especially true for a book that claims to have a magic formula. If everyone knows the magic formula and everyone can’t be rich, pretty soon the formula will have to stop working.
But I told you this was a long story. I’m going to start from the very beginning. For my kids and most others, almost all of this stuff will be new. For adults, even if they think they know a lot about investing already, even if they’ve been to graduate business school, and even if they manage other people’s money professionally, most have learned wrong. And they’ve learned wrong from the beginning. Very few people really believe the story I’m going to tell. I know this because if they did—if they really, truly did—there would be a lot more successful investors out there. There aren’t. I believe I can teach you (and each of my children) to be one of them. So let’s get started.
Chapter Two
ACTUALLY, JUST GETTING STARTED is a big deal. It takes a great amount of discipline to save any money. After all, no matter how much money you earn or receive from others, it’s simply much easier and more immediately rewarding to find something to spend it on. When I was young, I decided that all my