Editor's Outlook

This issue examines a simple value approach for investing in common stocks championed by Benjamin Graham just before his death in 1976. One would think that there is little relevant information to obtain from studying works of the father of fundamental investing 30 years after his death, but the opposite is true.

While Benjamin Graham may have co-authored and released the first edition of “Security Analysis” in 1934, he understood that the market is ever-changing and therefore he changed his approach to stock selection over time. As our feature article reveals, toward the end of his career, he basically felt that the in-depth analysis presented in “Security Analysis” would not reward most investors with a high enough return to justify the effort. The low-hanging fruit was already picked by the many professional analysts, and investors could do better by taking advantage of the emotions of the marketplace.

A critical element to Benjamin Graham’s approach is to accept that stocks have both investment characteristics and speculative characteristics. The investment characteristic of a stock is tied to the intrinsic value of a company determined by the net assets owned by the firm and the ability of these assets to produce goods and service. There is a separate speculative characteristic of a company’s stock price that is subject to the irrational emotions of the market. Hope, fear and greed move a stock price away from the intrinsic value of the underlying company. Greed pushes the price of a company’s stock well above the worth of a company, while fear depresses the stock price below the company’s true worth.

Graham championed the idea that investors could use either an asset-value or an earnings-multiple approach to identify undervalued stocks.

Graham felt that too many investors waste their time trying to forecast short- and long-term economic trends, which cannot be accurately forecasted.

Graham believed that individual investors had a number of significant advantages over institutional investors. Chiefly, individuals have a much larger pool of stocks to pick from. Institutions must limit themselves to the most liquid segment of the already over-analyzed portion of the stock market. Individual can look for values more easily among a wider range of companies.

Graham proposed that long-term investment success would occur if investors had a sound set of investment rules to select stocks without emotion, constructed a large and diversified portfolio and used a set of sell rules corresponding to their buying techniques to sell their holdings.

We hope that you enjoy our feature article on Graham’s simplest approach to selecting stocks.