2014年8月22日星期五

The foundation of Benjamin Graham’s philosophy

The foundation of Benjamin Graham’s philosophy

There are 5 principles that served as foundation of Benjamin Graham’s philosophy
  1. Investing is most intelligent when it is most businesslike.
    • A stock is just a fractional piece of a business
    • Stock has an intrinsic value based on fractional ownership of the business the stock represents.
    • Businesses make more or less money each year - over the long term stocks rise and fall based on changes in the value of the businesses they represent.
    • Investor have to exercise the say over business operations and management — it is partly your company, after all
  2. Nobody can tell the future.
    • It is nearly impossible to tell what will happen in the future
    • Analysts spend a lot of time reading financial statements and looking at past trends to try to get a sense of what’s likely to happen in the future - and investor use these predictions to determine which stock is a worthwhile investment
    •  Past record is the best way to assess what's likely to happpen in the future, but it's still not very reliable.
    • Benjamin Graham told investor not to base intrinsic value on trends that have been extrapolated into the future.  
    • Since the future is not knowable, investors should see anyone pushing stocks based on their future results with extreme skepticism. 
    • Graham advocated valuing the company based on its earnings value or liquidation value for the current period rather than placing a large value on the company based on lofty projections. 
  3. The future is something to protect against.
    •  Future is not knowable - Judgments of what will happen in the future are wrong just as often as they’re right.
    •  Instead of looking to the future to earn a profit, Benjamin Graham favoured protection from future  negative events in order to reduce risk 
    • The best way to do this is to look for multiple margins of safety when purchasing a stock.
      • To buy stocks for less than they’re worth - take advantage of the price-value discrepancy. The margin of safety exists when the shares are trading well below that intrinsic value.
      • A large dividend yield above the yield obtainable on a corporate bond is another MOS.
      • Debt is the route of all bankruptcies — avoid it.
      • Adequate diversification. If one company did get wiped out, a diversified portfolio would limit any losses.
      • NCAV stock - hold on to a portfolio of them to take full advantage of the statistical returns while avoiding the risk that came with holding on to a single stock.
  4. Investors are moved in large part by irrational forces.
    • Fear and greed - it cause investors to bid up the prices of stocks to nosebleed levels or
      or push stocks to unreasonably low levels.
    • Mr. market analogy - He is not a well balanced individual. Some days Mr. Market is feeling very optimistic about your company’s future, so offers to buy your share in the business for well above your own estimate of what its worth. On other days, however, Mr. Market feels depressed and pessimistic about the prospects of your partnership. On those days, he offers up his stake in the business at a surprisingly low figure in relation to your own assessment of its worth.
    • You don’t have to agree to any purchases or sales with Mr. Market if you don’t want to but
      his moods are there for you to take advantage of if you’re so inclined.
    • How do people swing to such optimistic or pessimistic appraisals of value?
      • Social proof  - If the market is in the middle of a long stead rise then its just human nature to feel left out and want to join in on the fun. Good information about stocks and future prospects can be difficult to come by and it is tough to see how things are likely to unfold. You see everyone making $ and feel that maybe you’re wrong about your own business valuations. You purchase some stock and works to push price up further.
      • Overoptimism - People feel more optimistic when price rise - and are more willing to value stocks more liberally
      • Commitment - Once someone makes a positive assessment, a positive prediction, of what is likely to happen, he is more likely to seek out confirming evidence versus dis-confirming evidence. This obviously makes it tough to sell. If he states his assessment publicly then it becomes that much harder, and he also encourages others to buy. This cycle continues until some bubble is pricked - everybody wakes up and the market turns.
      • Panic - sell shares to avoid further losses - pushing the price down further. Eventually even people with strong convictions about their previous valuations sell their shares to curb the pain of loss. Prices are pushed well below any reasonable assessment of long term value.
  5. Mean reversion is a fundamental law.
    • The reversion to the mean - over time results will tend towards some average. It is a powerful force in the business world, just like it is in the natural world.
    • Companies with capable management are able to earn certain amount on their asset over time -  In some years they can earn more or less than other years but over time earnings typically balance out to mean. You need to be patient.
    • A business trading at a price higher or lower than indicated value will see a convergence of it’s stock price and it’s business value over time.

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