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Learning from the Intelligent Investor

If you follow the behavioural and business principles that Graham advocates….you will not get a poor result from your investments (Warren Buffett)

I was really gratified to receive good reaction to last week’s blog* on Buying in Market Meltdowns. I’m pleased that so many of you read it and found it helpful.

I’ve been revisiting my reading on the recent period of history that fascinates me most- 1925-1930. Bill Bryson wrote One Summer: 1927 in 2015 and his writing on that single pivotal year lays the essential foundation for what remains burned into the conscience of many investors- the Great Crash of 1929.

I believe that history teaches us how Stock Market crashes come about and crucially how clever investors can profit as we exit such difficult periods. It is pertinent for 2020.

1929 is particularly important as it heralded the Great Depression. My grandfather lived through the 1930’s and his cautious approach to money throughout his life was birthed in that era.

Of course the Great Depression remains one of the longest periods during which companies were on their knees. Out of it however was born the modern concept of value investing. Reflecting on that period, a seminal work appeared. Published in 1949 The Intelligent Investor by Benjamin Graham remains the leading work on Value Investing. Benjamin Graham taught Warren Buffett, who is today one of the greatest (and richest) investors in the World.

Ben Graham’s mantra was deep value investing. His advice can be boiled down into the following five key principles:

1.       Know the business you’re investing in and who runs it.
2.       Invest for long term profits.
3.       Fundamental value should always trump popularity.
4.       Always invest with a margin of safety.
5.       Don’t be swayed by others- make your own judgments.

If there was ever advice that long term investors need to heed today it was these five key points.
I started as an investor in 2012. There have been corrections since then. This is the first Market crash that I have experienced. For the first time, opportunities are appearing with Ben Graham’s fabled margin of safety. This is the moment that some of us have been waiting for.

But let’s walk through the five principles:

Know the Business
The first principle is of particular importance at the moment. You should start by really trying to understand the business in which you are investing- what are its strengths, what are its competitive weaknesses, where do its opportunities lie and what are the threats to it? What debt is it carrying? What is its cash pile? Are its key markets contracting or expanding? Finally- does it have strong management? You should always do this analysis as much as you can. Don’t just punt on shares.

Think Long Term
It’s tempting to jump in and make a quick profit. What’s been fascinating in the past fortnight is that some good companies have been priced for failure. I wrote about Dart Group (DTG) last week. Their shares plunged below £3 on Friday before incredibly climbing up to £5.36 today- a 75% increase! That is penny share nonsense. Here is a company with a £1 billion plus cash pile that was priced for bankruptcy. This is a share that was £18+ in February 2020. I will admit that I looked at them a few times this week but disregarded them. To invest in DTG was pure speculation. Once its future looks secure, it becomes investable.
I’m afraid that long established boring companies that pay reasonable dividends tend to make the best investments. They don’t grow fast, but dividend reinvestment is proven to be a great long term strategy. Strong dividend policies are always a sign of strength.

Fundamental Value should always trump popularity
Fundamental analysis is vital. An investor must take ownership of it. To do that does take some work. You don’t need to be a qualified accountant, but you should understand why one company is better value than another. Metrics such as profit to earnings, debt burden, return on capital, dividend policy and risk of bankruptcy should all come into play.

I’m a member of a few Facebook investor groups and I do despair when I see novice investors asking everyone if they should take a punt on XXY. I do wonder if many of them have taken the time to actually look at the company and decide if it is good value based on fundamentals.
There are a lot of shares on sale at the moment that look to be good value. However almost all recent earnings guides should be junked in the light of the present crisis. Fundamental analysis is more important than ever.

Always Invest with a Margin of Safety
This is perhaps Graham’s most memorable rule. If a company’s market capitalisation is lower than the cash it holds after its liabilities have been accounted for, then you have a margin of safety.
Graham also preaches diversification, making the analogy to a casino. In essence if you hold a number of companies with a margin of safety then you have the odds of the casino rather than the odds of a punter. Tempting as it is to bet the ranch on one stock, you markedly increase your risk if you have miscalculated your margin of safety.

If the Market is pessimistic as a whole and the share price in a decent company has nosedived, there is actually less margin for that price to fall further and there is much greater chance on the upside- hence the margin of safety.

Make your own decisions
It is so tempting to follow others into trades. Just don’t. If you see a share tipped then ALWAYS DO YOUR OWN RESEARCH before jumping in. Believe me there is nothing more satisfying than finding a diamond in the dirt and then watching other discover it in the future after it has risen nicely. Let others follow you (if they must), not you follow them.

In short Ben Graham’s book is a book for now. It is not the easiest read, but it is gold-dust. It can help make you a better investor and we all want some of that.

*This blog is published subject to this disclaimer.


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