The father of value investing, Benjamin Graham authored the book The Intelligent Investor which was first published in the year 1939. The book eventually gained fame as the bible of the stock market. Graham’s disciple Warren Buffett has been quoted, “I read the first edition of this book early in 1950 when I was nineteen. I thought then that it was by far the best book about investing ever written. I still think it is.”
The book is a lengthy read and the revised version comprises of modern commentary and references for each of the 20 chapters. Since the original work is about 80 years old, certain topics such as interest rates and time-sensitive subjects show the sign of age. However, the crux and fundamentals of the book are equally relevant in the modern day investing.
The book covers various topics and is to a large extent an exhaustive list of major and minor issues to be considered for the fundamental analysis approach of investing. In spite of a long list of topics, the major focus of the book revolves around the three concepts, namely,
Enterprising vs Defensive investor: Investors are categorized as either “enterprising” or “defensive”. The approach in investing differs for each of the categories.
The enterprising investor: An enterprising investor should see their investments like they’d see other business.
The defensive investor: Not every investor has the time to view the investments in the light of analyzing the business, such investors are categorized as defensive investors and are suggested to follow a defensive strategy which includes aspects of conservative investment which require little effort in portfolio management, research, selection and monitoring of individual securities and overall portfolio.
The margin of safety: “We say that to have a true investment there must be present a true margin of safety. And a true margin of safety is one that can be demonstrated by figures, by persuasive reasoning, and by reference to a body of actual experience.”
Graham describes that there are two different prices of a stock, namely:
1. The price Mr. Market believes its worth. It is the price at which the stock is selling on the market.
2. The worth of the stock as per the investor. This worth is referred to as the “intrinsic value”.
The goal of the investor is to buy the stock at a price far below the intrinsic value. This gives a margin of safety thus limiting the downside.
The concept of intrinsic value is highly subjective and differs from investor to investor. There’s no fixed way to calculate this value and there are many variables which are largely out of control. Thus, the margin of safety can be said to guarantee a higher chance of profit than that of loss but it doesn’t eliminate the chance of losing altogether.
Mr. Market: Graham tells a story of a businessman called Mr. Market, who is the investor’s business partner. Mr. Market approaches the investor each day with either of the two offers “to buy the investor’s stake in the business” or “to sell his stake in the business to the investor”.
Further, Mr. Market is described as an emotional man whose enthusiasm and despair affects his willingness to sell/buy the stake. As a result, his offer price to buy/sell the stake is higher on the days he is jubilant whereas the offer to buy/sell the stake is low on days he is depressed.
In such a situation an intelligent investor shall opt to “Buy low and sell high” thereby making the most out of the situation. Thus an intelligent investor should do business with Mr. Market only to his advantage. Thus, the key to profitable investment is to stay alert and ready when a favorable offer comes up.
THE KEY TAKEAWAYS: The extensive reading provides many important lessons for an intelligent approach in investing. The key takeaways from the book are mentioned as under;
The three principles of intelligent investing: These principles are often referred to as the key to value investing. They are as follows:
1. An intelligent investor always analyses the long-term evolution and management principles of a company before investing.
2. An intelligent investor always protects him- or herself from losses by diversifying investments.
3. An intelligent investor never looks for crazy profits but focuses on safe and steady returns.
Do not ever trust Mr. Market: The analogy wherein Graham personifies the entire stock market as a single person called Mr. Market, time and again mentions that how Mr. Market shall try and lure the investors by offering various prices for different stocks. Graham suggests that the best way to deal with Mr. Market is to avoid all his offers as he doesn’t seem to be very clear, highly unpredictable and extremely moody. Thus, an intelligent investor must rely on his research and should resist Mr. Market’s allurements.
Formula investing (Dollar cost averaging): This refers to a consistent approach to investing wherein a fixed amount of money is invested in a predefined portfolio at regular intervals irrespective of the market condition at the point of investment. Over time such an investment results in an average return as it smooths out the market fluctuations.
Approach to Value Investing: The focus of a value investor should be more on the operating performance and the dividends of the firm they own rather than the shifts in their stock prices. Also, the investors must realize their rights and ownership and should employ them seriously and consistently.
The book boasts of some great quotations, some of the notable ones are listed as under:
“On the other hand, investing is a unique kind of casino—one where you cannot lose in the end, so long as you play only by the rules that put the odds squarely in your favor.”
“In the short run, the market is a voting machine but in the long run, it is a weighing machine.”
“The intelligent investor is a realist who sells to optimists and buys from pessimists.”
“People who invest make money for themselves; people who speculate make money for their brokers.”
“Investment is most intelligent when it is most business-like.”
“The genuine investor in common stocks does not need a great equipment of brains and knowledge, but he does need some unusual qualities of character.”
“The intelligent investor (needs) an ability to resist the blan¬d¬ish¬ments of salesmen offering new com¬mon-stock issues during bull markets.”
“It is amazing to see how many capable businessmen try to operate in Wall Street with complete disregard of all the sound principles through which they have gained success in their own un¬der¬tak¬ings.”
“Some of these issues may prove excellent buys – a few years later when nobody wants them and they can be had at a small fraction of their true worth.”
“A prime test of the competent analyst is his power to distinguish between important and unimportant facts and figures in a given situation.”
Therefore, it can be concluded that the book The Intelligent Investor is indeed a culmination of guiding principles. It enlightens both amateur investors as well as the seasoned ones for the purpose of value investing.
ZURISHA AFTAB
MBA-FA(2017-19)
In 1956, Buffett started his investment partnership with $100; after thirteen years, he cashed out with $25 million. In mid-2004 his personal net worth had increased to $42.9 billion, the stock in his company was selling at $92,900 a share.
What is a Random Walk? A random walk is one in which future steps or directions cannot be predicted on