Investor's Edge

This simple analogy will give you a new strategy for stock investing

Joel Greenblatt breaks down the key to valuing a business

If you can't figure out the value of a company, you have no business investing in it. That's the simple, strategic investment advice from Joel Greenblatt, managing principal and co-chief investment officer of Gotham Asset Management. "You'll just be speculating, because if you don't know what you're buying, it makes sense that you'll just be speculating," he says.

Greenblatt compares the process to investing in real estate. If you're considering making an investment into a $1 million house, you should figure out how much rent you can collect every year relative to the purchase price, how cheap it is compared with the house next door and the houses in the next town. The same applies to stocks. How does it compare with its peers and with stocks in the same sector?

"If you can value companies and buy them at a discount and you're disciplined about it, you can do quite well," Greenblatt says.

The most important thing individual investors should do, according to Greenblatt, is buy an index that makes sense but understand what you're buying.

Greenblatt is the author of "You Can Be A Stock Market Genius," "The Little Book that Beats the Market," "The Little Book that Still Beats the Market" and "The Big Secret for the Small Investor."

The Gotham Funds are a series of long/short equity hedge funds available in mutual fund form. Gotham has $5.3 billion in assets under management.