#111 Joel Greenblatt: Investing Made Simple
Joel Greenblatt, Managing Principal at Gotham Asset Management and Columbia Business School faculty, shares insights on investing, distinguishing luck from skill, evaluating management teams, and current market dynamics, emphasizing simplicity and long-term value creation.
Deep Dive Analysis
16 Topic Outline
Distinguishing Luck from Skill in Investing
The Simplicity and Passion of Successful Investors
Finding Investment Opportunities by Seeing Differently
Joel Greenblatt's Path and Inspiration into Investing
Sourcing Ideas and Learning from Others' Mistakes
Patience and Knowing Your Strengths in Investing
Position Sizing Based on Risk, Not Upside
Current Market Irrationality and Fed Intervention
The Changing Nature of Business Investment and Accounting
Concerns About Market Froth and Speculation
Evaluating Management Teams and Capital Allocation
Non-Obvious Lessons Learned from Warren Buffett
Stock Options as Compensation and Long-Term Value Creation
Critique of Accounting Rules and Importance of Transparency
Lessons from Running Success Academy Charter Schools
Proposal for Alternative Certification for Diverse Talent
5 Key Concepts
Mastery Simplicity
This refers to the ability to distill complex information into simple, obvious truths after having fully understood the underlying complexity. It contrasts with naive simplicity, which is a lack of understanding of complexity.
Asymmetric Returns
An investment concept where the potential downside or loss is significantly smaller than the potential upside or gain. Joel Greenblatt emphasizes focusing on minimizing potential loss when sizing positions, rather than solely on maximum upside.
Market of Stocks vs. Stock Market
This distinction highlights that while major market indexes might appear rational due to the performance of large, high-quality companies, many individual stocks within the market can exhibit irrational or speculative pricing behavior. It's crucial for understanding where true value and risk lie.
Long-term Value Creation
The philosophy that a corporation's ultimate goal should be to create the maximum possible value over the long term. This inherently requires ethical practices, such as treating employees and customers well and being a good community member, as short-term gains from poor practices are unsustainable.
Alternative Certification
A proposed system where major companies establish specific tests, courses, or certificates that, when completed, can qualify individuals for high-paying jobs in lieu of a traditional college degree. This aims to create new pathways for talent and address the underutilization of skilled individuals outside conventional academic routes.
10 Questions Answered
Successful investors demonstrate simplicity of thought, boiling down complex ideas to a few simple concepts, and possess a deep passion for solving puzzles and figuring things out, rather than just being in it for the money.
Great investors skip highly competitive or hard-to-predict businesses, instead focusing on opportunities they can easily understand or by looking at things from a different angle or '40,000 feet' to find overlooked value.
He reads various publications and news feeds, picking things that are interesting to him, learning about world developments, and drawing on experience to connect current situations with past events.
Position sizing should be based on how much money one can realistically lose, rather than the potential upside. If the downside risk is low (e.g., a dollar or two), a larger position (e.g., 20%) can be justified.
While large tech companies like Amazon and Apple appear reasonably valued, there's significant froth and speculation in companies losing money, with many being valued as if they'll all be the 'next Amazon,' which is unlikely.
He is concerned about the speculation in SPACs and money-losing companies that are getting the benefit of the doubt but shouldn't, indicating potential froth that will end badly for those specific companies, though unlikely to bring down the entire market.
He primarily assesses their past capital allocation track record, believing that if they were good at it before, they likely will continue to be. He finds personal assessments of management less reliable than quantitative track records.
He believes stock options should be fully accounted for as a cost and that they can be a valid way to incentivize management, provided they are predicated on long-term value creation rather than short-term gains.
The role of a company is to create as much long-term value as possible, which necessitates treating employees, customers, and the community well, as short-term gains from poor practices are unsustainable.
He learned that with the right supports and high standards, almost every child, including low-income, minority, and disabled students, can achieve at high academic levels, challenging the notion that only a select few can succeed.
40 Actionable Insights
1. Be Selective with Opportunities
Don’t feel compelled to pursue every opportunity; instead, wait for the easy, simple pitches that are within your ‘sweet spot’ to ensure you do a good job with them. This selective approach allows you to achieve success even if you miss many other opportunities.
2. Cultivate Simplicity and Passion
To be successful, develop the ability to boil complex ideas down to a few simple, attractive concepts. Combine this simplicity of thought with genuine passion for solving problems and figuring things out, as this combination tends to lead to long-term success.
3. Seek Obvious Opportunities
Aim to find opportunities that are so simple and obvious that their value is clear without extensive, complex analysis. If an idea requires 40 pages of spreadsheets to understand, it’s likely not the kind of clear-cut opportunity that leads to the best results.
4. Prioritize Downside Protection
When sizing positions, focus on how much you can lose rather than how much you might gain; take larger positions in investments where you believe the downside risk is minimal. Seek asymmetric returns where the potential upside significantly outweighs the limited downside.
5. Focus on Not Losing Money
Prioritize capital preservation, as avoiding significant losses makes most other investment outcomes favorable. If you don’t lose money, most of the other alternatives are good.
6. Define Risk by Long-Term Downside
Assess your true risk in an investment by considering the worst-case scenario if you can patiently choose your selling point over a few years, rather than short-term volatility. This allows for a more realistic evaluation of potential loss versus reward.
7. Practice Patience for “Aha”
Develop the patience to wait for clear ‘aha’ moments where an opportunity becomes simple and obvious to you. Only act or ‘pull the trigger’ when you have this strong conviction and a better way of looking at the situation.
8. Know Your Strengths
Identify and understand your personal strengths, and then focus your efforts on opportunities that align with those strengths. If you are good at simple things, stick to those ideas that make total sense to you.
9. Embrace Continuous Learning
Maintain a mindset of continuous learning, acknowledging that you will always make mistakes and never ‘have it all figured out.’ The goal is not perfection, but to be right more often than you are wrong.
10. Learn from Others’ Mistakes
Actively seek to learn from the mistakes and experiences of other people and from the past. Reading how smart people think is helpful, as it allows you to avoid making those same mistakes yourself and instead make different ones.
11. Value Stocks as Businesses
Approach stock investing by valuing each stock as an ownership share of an entire business, similar to a private equity firm. Determine what the whole company is worth and what you are paying for that ownership, rather than just focusing on short-term price movements or fancy ratios.
12. Evaluate Management by Past
Assess a management team’s competence primarily by their historical track record of capital allocation, rather than their current stories or perceived intelligence. A consistent past performance in capital allocation is the best indicator of future behavior.
13. Be Unemotional in Management Assessment
When evaluating management teams, remain cold, calculating, and unemotional, focusing on quantitative data of past capital allocation rather than their persuasive stories or apparent intelligence. This objective approach helps avoid being swayed by charisma and leads to better assessments.
14. Look from Different Angles
To find great opportunities, try to view problems or situations from a ‘40,000 feet’ perspective or a different angle than others. Success often comes from recognizing when the common perspective is incorrect and finding a better way to understand it.
15. Find Opportunities Off-Path
Seek out opportunities in places that are ‘off the beaten path’ or not being scrutinized by everyone else. This approach can provide an advantage by allowing you to find value before it becomes widely recognized.
16. Simplify to See Reality
To perceive a ‘better version of reality’ and see things differently than others, focus on keeping your thinking simple. The best ideas are often simple, and this approach helps you cut through complexity to find clarity.
17. Reflect on Core Thinking
When teaching, writing, or after an action, reflect to understand ‘what was I really thinking’ and ‘what was the simple thought I had in my mind.’ This process helps to boil down experiences to their elemental truths, whether they resulted in success or failure.
18. Write to Clarify Understanding
Engage in writing as a method to learn and clarify your understanding of complex topics or your own thought processes. Writing helps you discover what you truly think and understand, often revealing gaps in your knowledge.
19. Skip Hard-to-Understand Opportunities
When faced with complex situations where competition is fierce, technology is changing, or future earnings are hard to predict, choose to skip those opportunities. Instead, focus on finding situations you can clearly understand and evaluate.
20. Use the “Too Hard” Pile
When evaluating opportunities, especially complex ones like new companies with uncertain futures, be willing to put most of them in the ’too hard’ pile. Focus only on the few you can genuinely figure out based on your expertise and vision.
21. Avoid Wasting Time
Be quick to pass on opportunities that don’t immediately make sense or look promising, even if it means missing some. Concentrating your efforts on the few things that do make sense is more valuable than spending excessive time on many unpromising leads.
22. Continuously Learn About World
Cultivate a habit of continuously reading and learning about developments in the world that genuinely interest you. This ongoing process of understanding can occasionally spark valuable insights and ideas.
23. Gain Experience to Contextualize
Accumulate experience in your field to develop the ability to contextualize new opportunities against past observations. This helps you recognize truly exceptional opportunities (e.g., top 10-20% of what you’ve seen) and act on them with greater confidence.
24. Optimize Position Sizing
Position sizing is crucial; avoid being too timid with your best ideas, as this can be a major mistake. Taking large positions requires a willingness to accept potential big losses and the patience to wait for truly compelling opportunities.
25. Contextualize Risk for Peace
When making large purchases or investments, contextualize the risk by focusing on the realistic potential loss rather than the total scary price. Understanding your true downside (e.g., 10-20% of the value) can make the decision more ‘sleepable’ and manageable.
26. Know Yourself and Expertise
Understand your own strengths and areas of expertise, and make bets or decisions only where you have a particular vision or something seems simple to you. This self-awareness allows for more confident and potentially successful choices.
27. Prioritize Long-Term Value
Focus on creating long-term value by treating employees, customers, and the environment well, as this is the only sustainable path to true success. Avoid short-term wins that compromise these relationships, as they only create the appearance of value and lead to problems.
28. Focus on Long-Term Vision
For management, prioritize doing the right thing for the long term and building sustainable value, trusting that the market will eventually recognize it. Avoid making decisions solely to please short-term analysts or meet quarterly targets, as this can detract from true long-term growth.
29. Homogenize Data for Understanding
When reviewing financial information, focus on understanding the economic reality of the business by homogenizing different accounting standards or disclosures into a format that makes sense to you. Prioritize transparency and management’s explanation of their thinking over strict adherence to specific accounting rules.
30. Move On from Opaque Information
If, after spending significant time, you cannot figure out complex or opaque financial statements or business structures, assume it’s intentional and move on to other opportunities. Lack of clarity is generally not a good sign.
31. Learn from Best Practitioners
Continuously learn and improve by observing and studying how the most successful practitioners in your field operate and make decisions. This can provide valuable models and insights for your own approach.
32. Be Gracious and Share Wisdom
Strive to be gracious and generous with your time and wisdom, even with those who may not offer immediate reciprocal benefits. This act of sharing can be deeply meaningful and provide its own form of ‘payback’.
33. Get References from Past Colleagues
When assessing individuals (e.g., for hiring or partnership), prioritize speaking with people they have worked with in the past. This provides a more accurate indicator of their performance than their interview answers or your own assessment during an interview.
34. Develop Replicable Support Systems
When building a successful model, focus on creating replicable systems that provide necessary support and training to enable average performers to become great. This ensures scalability and consistent high standards across multiple instances.
35. Create Systems for Sharing
Establish systems that facilitate the sharing of what’s working and what’s not across different units or teams. Foster a collaborative environment where the focus is on collective improvement and learning outcomes, rather than internal competition.
36. Prove Concepts via Repetition
Demonstrate the validity and effectiveness of a concept or model through repeated, consistent success over many iterations. The cumulative evidence of repeated positive outcomes will speak for itself.
37. Provide Right Supports
Believe that with the appropriate and targeted supports, almost everyone, regardless of background, can achieve at a high level. Focus on identifying and providing these necessary supports to unlock potential.
38. Create Alternative Certification Pathways
For companies, set clear standards for tests, courses, or certificates that can serve as alternative credentials in lieu of a traditional college degree for high-paying jobs. This creates a demand that can foster an ecosystem of supportive services, providing new pathways for diverse talent.
39. Pursue Diverse Talent for Profit
Recognize that a diverse workforce is not just socially beneficial but also profitable. Actively seek out and develop talent from underrepresented groups, as a significant pool of potential is currently being wasted due to traditional credentialing barriers.
40. Extend Debt Maturities
If you have the opportunity to borrow money at very low or ‘free’ interest rates, extend the maturities of your debt as long as possible. This locks in favorable terms for a longer duration.
8 Key Quotes
You don't have to swing at every pitch. You can swing at one of 20 pitches, but as long as you do a good job with that one, it doesn't matter that you missed out on them.
Joel Greenblatt (quoting Warren Buffett)
If I have to get to page 40 of a spreadsheet to figure out this is a good investment, that's not really where I find it. It's more like you can drive a truck between what I think it's worth and where it's priced.
Joel Greenblatt (quoting Warren Buffett)
I find writing is the process by which you learn that you don't understand as much as you think you did.
Shane Parrish
If you don't lose money, most of the other alternatives are good.
Joel Greenblatt
The government should spend as much money as necessary to keep the consequences low because this really is a one-off for hopefully the next, you know, maybe it won't happen again for 20 or 30 years.
Joel Greenblatt
The best rule of thumb that I learned was if this management team was good at allocating capital before I walked in the door, the assumption that they would continue to be good was a really good assumption.
Joel Greenblatt
A stock is not a piece of paper that bounces around that you put fancy ratios on, they're actually ownership shares of businesses that you value.
Joel Greenblatt
There's no excuse for not trying to be gracious with everyone if he can be that way.
Joel Greenblatt (referring to Warren Buffett)
2 Protocols
Evaluating Investment Opportunities
Joel Greenblatt- Skip businesses where competition is fierce, technology is always changing, or future earnings are hard to predict.
- Find opportunities that are simple and obvious to understand, not requiring extensive analysis (e.g., 'not on page 40').
- Look at things from a '40,000 feet' perspective or a different angle than others.
- Identify situations where your unique perspective makes total sense and all the pieces fit together.
- Focus on finding opportunities in 'off the beaten path' places, rather than trying to be better at analyzing common businesses.
- Have the patience to wait for these 'aha moments' and only pull the trigger when they appear.
Building a Replicable Educational Model (Success Academy)
Diva Moskowitz (CEO of Success Academy, described by Joel Greenblatt)- Develop a strong foundational model in one school, investing significant resources and effort to ensure all kids learn and none fall through the cracks.
- Expand by opening additional schools (e.g., three more a couple of years later).
- Continuously measure performance across schools and grades (e.g., which teachers/schools are doing better).
- Create systems for sharing what's working and what's not working across the network of schools.
- Define 'profits' as kids learning, aiming for over 90% reading and doing math on grade level.
- Raise standards further once initial goals are met.