A Stalwart Picker of Value Stocks Joins the Indexing Crowd
The veteran manager is banking on a hybrid active-passive approach
This article is part of a series on the future of investing
Each fall, aspiring value investors flock to Columbia Business School to take hedge fund manager Joel Greenblatt’s class. Recently they’ve arrived with doubts. Someone will say, “Hey, Joel, congrats on a nice 35-year career,” Greenblatt said, “but isn’t the party kind of over for us?”
Bargain-hunting has been a favored strategy for generations of investors. But an eight-year rally in stocks, lagging performance for many value-oriented managers, and a flood of money to passive funds has removed the shine. Even at Columbia — the vaunted MBA program where Benjamin Graham once taught the craft to a young Warren Buffett — students are questioning its premise.
Few have been as devoted believers as the 59-year-old Greenblatt. While he’s not giving up on value, he thinks the future belongs in part to managers who can borrow a bit of the passive playbook. His latest fund combines an index tracker and an active strategy in one package. The idea: to deliver strong results and avoid long bouts of underperformance.
“It’s a hybrid that answers a lot of the questions that active management has failed to answer,” he said. “This strategy will dwarf them over time.”
Data show most people struggle to stick with a strategy, even if they find a competent manager. They get in and out at the wrong times, selling when results lag and buying after gains. Considering this problem with partner Robert Goldstein at Gotham Asset Management LLC, Greenblatt decided to try to reduce how much a fund trails its benchmark in the bad times.
The managers introduced Gotham Index Plus in 2015. Instead of seeking to beat the market with all its capital, they start by allocating a portion to tracking the S&P 500 Index. They then bet on stocks they consider undervalued and sell short those they deem expensive, netting the positions.
Greenblatt has an enviable track record. He grew up in Long Island and left high school a year early to attend the University of Pennsylvania’s Wharton School. While there, he became captivated by Graham’s investing approach. A few years after graduation, he started a hedge fund, Gotham Capital, that had compound annualized returns of more than 34 percent from 1985 through 1994, when he returned money to clients.
In the following years, he wrote the investing best-seller “The Little Book That Beats the Market,” started teaching and managed his own money. He famously seeded Michael Burry, the hedge fund manager profiled in “The Big Short” who made a fortune in the financial crisis with bets against mortgage bonds.
Greenblatt started a series of long-short mutual funds in 2012. They made a splashy debut, attracting billions of dollars. But losses in 2015 sent investors fleeing. The oldest fund, Gotham Absolute Return, ended November with $967 million in assets — about a quarter of its peak.
Index Plus is growing. It had $228 million at the end of last month. In 2016 the fund outperformed 95 percent of peers, as measured by Bloomberg. This year it’s in the top decile.
Another attraction is lower fees. Greenblatt’s larger funds charge 2 percent for management but Index Plus costs half that.
“I give him credit for being willing to change the recipe,” said Lawrence Glazer, managing partner Mayflower Advisors in Boston, which oversees $2.5 billion. “It would be hard to be more out-of-favor than an active value manager who sells expensive funds with a long-short strategy.”
Investors increasingly are questioning whether the fees they pay are worth it. Even Buffett has waded in, declaring that more than $100 billion was wasted chasing market-beating returns over the past decade. He’s encouraged people to buy low-cost index funds instead.
Given that backdrop, Gotham’s latest fund is clever marketing, said Patricia Oey, a senior analyst at Morningstar Inc. The flood of money into passive strategies is pressuring active managers to prove their worth.
“They’re just trying to offer what they think investors might want,” Oey said. Still, the hybrid fund is “not super cheap” and investors might be better off purchasing index and active funds separately, she said.
Greenblatt believes the passive wave will eventually benefit those with a keen eye for valuing businesses.
“There are more people folding their cards,” Greenblatt said. “If you understand what’s going on and can put it in the right context, the opportunity is bright.”
When his students question that view, he points to S&P 500 returns over the past two decades, noting stocks have soared and plunged at various times. In other words, the market is moody and savvy investors can take advantage of that.
How do the students respond?
“They keep showing up.”