Greenblatt's Approach: Magic, or Discipline?

While people often use the words simple and easy to describe the same thing, there’s a big difference — a difference Validea CEO John Reese says has big implications in investing.

In his latest column for, Reese looks at the strategy of hedge fund guru Joel Greenblatt. “Back in 2005, Greenblatt published The Little Book that Beats the Market, a small, concise book that shows how investors can produce market-beating returns using a formula that has two — and only two — variables,” writes Reese. “In an investing world of seemingly limitless data points, that may sound improbable. But it’s not. Greenblatt’s ‘magic formula’, as he called it, produced back greeted returns of 30.8% per year from 1988 through 2004, more than doubling the S&P 500’s 12.4% return during that time. What’s more, a 10-stock portfolio picked using my Greenblatt-inspired Guru Strategy computer model has averaged an annual return of 10.7% in the four years since its inception — while the S&P 500 has gained 5.3% per year.”

Reese says that while the formula is simple, it’s not easy to follow. The difficulty comes in sticking with the strategy, which has outperformed over the long haul but can underperform for two or even three years in a row. He looks at how the formula works and why it has to go through down periods, and offers a handful of stocks that get high marks from his Greenblatt-based model.