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Archive for September, 2012

This post is based on Chapter 50 of the Sixth Edition of Security Analysis – ‘Discrepancies between Price & Value’. It’s an invaluable chapter that provides a systematic method for investors to seek investment opportunities in the market, something that is not covered extensively in The Intelligent Investor.

Most financial analysts and investors expend the greater part of their time and effort on determining the future prospects of selected companies; that much is a given. What most people fail to note is that Graham’s method was different. His focus was on the previous performance record of the business itself, and he placed little emphasis on attempting to predict the future performance of the selected business. Although this distinction may seem subtle, it carries significant repercussions for the way an investor should shape his research process.

Although Buffett and Graham shared a common way of thinking, the method by which each investor implemented his strategy was poles apart, as is night and day. Whilst Graham was content to focus his efforts on finding statistically cheap companies that had a high probability of generating a return greater than the market averages, Buffett concentrated his research on finding businesses with sustainable competitive advantages since he was buying into the future cash flow that the business would generate.

There is no “right” method per-se; each investor has to contend with the strengths and weaknesses of each approach. For the purpose of this discussion, I will be focusing on what Graham refers to as “secondary issues” as this is the key area of my investment research.

During normal markets, where prices are neither too high nor too low, there are more often than not a great number of “secondary issues” i.e. small-to-mid capitalization companies which possess:

1) High current and average earnings relative to market price

2) Reasonable satisfactory exhibit of earnings, selling at a low price relative to their net current asset value (NCAV) whereby NCAV is defined as Current Assets – Total Liabilities

Indeed Graham had such success with (2) that he made the systematic buying and selling of businesses vending below their NCAV his main priority.

The benefit of investing in these issues is that they are often overlooked and ignored by most institutional and retail investors. One must realize that institutional investors by sheer virtue of their size, can only invest in a small number of businesses listed. It would not be cost-effective or practical for them to build up stakes in smaller capitalization companies. Furthermore, with such little attention focused on them, many of these companies are often mispriced, therefore providing ample opportunity for exploitation by astute investors.

In a nutshell, you can be sure that the majority of investors will expend the best part of their effort attempting to locate the next Apple or Microsoft by means of predicting the company’s future prospects. These investors will then try to purchase company shares at unattractive valuations in the process.

Those who choose to invest by making a commitment to a diversified group of “bargain issues” with only moderate prospects are few indeed. However, my own personal view is that such a technique has provided investors with more than a satisfactory return since its inception and I have thus made it the foundation of my own work.

I highly recommend my readers to pick up a copy of Security Analysis to enjoy a fuller discussion of the points made by Graham & Dodd.

Further Reading:

A Test of Ben Graham’s Stock Selection Criteria by Henry R. Oppenheimer

Benjamin Graham – Wiley

Value Investing: Tools and Techniques for Intelligent Investment by James Montier [Book]

 

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For those who know me, I recently made the decision to switch courses from reading medicine to reading law. This decision was not made easily. However, I believe that it is one that puts my life in the right direction.

When I started this site close to two years ago, I had no idea where this would lead to. What began as a curiosity and interest soon developed into a full blown passion. The ideas that Benjamin Graham introduced, curiosity, honesty, a wilful disregard for the conventional norms and his generosity reverberated with me, providing to me role model to inspire myself towards. They were concepts that not only applied to investing, but life as well.

No matter your age, I am sure that you understand the importance of passion. As children, we have boundless curiosity and a thirst for knowledge. With time, these traits ebb away as we are told to adapt to the “real world” where conformity and results are far more treasured. As current student, I understand the pressure to conform to the pressure of society – to take up a degree or job that you have no real interest in for the money.

And yet, there is a real danger in giving in, in deciding that you have to listen to others. If you start to compromise on your beliefs, there is no end to it. It is no surprise that so many people are unhappy with their jobs. How contented can one if you hate what you are doing?

When I look at my role models, people like Steve Jobs, Richard Feynman, Carl Sagan, Warren Buffett or Richard Branson, they all share one trait – they love their jobs and wouldn’t trade a dime in the world to do something else.

When I was young, I used to admire the smartest and brightest people around me. Those who effortlessly scored top grades, who aced their exams, who made everything look like a breeze. As I grow older, I noticed a change. The people who were succeeding the most in life weren’t these people at all. The people who were excelling in life (not exams mind you) were those who were honest, who had a determination to never say no, who never compromised on their convictions even if no one believed in them. The ability to excel in an exam, or superior intellect while useful, was not pre-requisites to success at all.

Living in Singapore, I understand full well the importance of material wealth. Money gives us a real power and ability to do the things we want to do in life. However, focusing on money alone will not make one happy. In order to do great work, you need to have the passion to sustain you throughout your journey. I know an abundance of friends who are jaded, discontented and am unhappy with their lives despite landing prestigious degrees or jobs. I truly believe that if you can do great work, and offer a valuable service to others, the money will follow. Life simply does not work the other way round.

Inspired by Benjamin Graham, I believe that I have found something that I intimately connect with, that gets me excited everyday to wake up to, and something that I believe that I can excel in professionally in the future. To those who have not found something that they love, please keep looking. While it is not easy, take solace that you are not the first in this journey. Ultimately, if you can believe in yourself, that’s all it takes for you to succeed.

 

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