This is the first in a quarterly, or occasional, review of a relevant book by a noted author. In time, I intend to work my way through the "classics" (my definition!) and see what I learn along the way with a view to improving my portfolio performance.
Despite the sensationalist title, You Can Be A Stock Market Genius, this book adds the substance to Joel Greenblatt's form.
As a American fund manager, Greenblatt achieved an IRR of 50% between 1985 and 1994 through investing in publicly quoted stocks via his fund, Gotham Capital. To put it in perspective, he (and his team) had effectively grown $1 in 1985 to be worth nearly $52 by 1994. OK, there is the small measure of inflation and the partners' carried interest to erode the real return to external investors, but I'm being churlish...his returns were extraordinary.
In this book (1999 edition), he sets out, often quite wittily and with plenty of real-life case studies, the kind of situations that helped to bring him his stellar returns. In essence, he thrives on special situations where there is a fundamental imbalance between supply and demand which causes price distortion (ie the market undervalues that asset/situation) that, through analysis, he expects to reverse.
The interesting things that I took away and will consider for my own portfolio include:
1 - I am probably over-diversified. "After purchasing six or eight stocks in different industries, the benefit of adding even more stocks to your portfolio in an attempt to decrease risk is small". I have the words of Buffett and his diversifying against ignorance ringing in my ears.
2 - Look in the right places - he's a big fan of "spin-offs" in particular.
3 - I shall focus on Free Cash Flow a bit more. Whilst I already include it in my rules, I will consider whether it is appropriate to use FCF as an alternative to EPS when looking at PE ratios.
You Can Be a Stock Market Genius: Uncover the Secret Hiding Places of Stock Market Profits