The Intelligent Investor

The Intelligent Investor Reading Notes (Part 1) Make the world a better place

Graham's significance to investing is as important as Euclid's to geometry and Darwin's to biological evolution.

Interpretation of Buffett's Preface#

Defensive investors should follow four major stock selection principles: appropriately diversify investments in 10 to 30 stocks; choose large, outstanding, conservatively financed companies; ensure dividends have been paid continuously for over 20 years; and maintain a price-to-earnings ratio not exceeding 25 times.
In fact, for most investors, low-cost index funds are the best choice for stock investment.
Three strategies for aggressive investors: buy stocks of large companies that are relatively unpopular in the market; invest in severely undervalued cheap stocks; and special situations or "bankruptcy debt restructuring."
Buffett's investment philosophy: look for large companies with clear and understandable businesses, consistently excellent performance, and management that is extraordinary and considers shareholders' interests.
The function of the margin of safety: with a sufficient margin of safety, there is no need to accurately predict a company's future earnings.
The market is a voting machine in the short term, but a weighing machine in the long term.
Buffett's principle for buying stocks is simple—be fearful when others are greedy, and be greedy when others are fearful.
Buffett believes that achieving investment success in one's lifetime requires a sound knowledge system as a decision-making foundation and the ability to control one's emotions so that they do not erode this system.

Introduction: The Purpose of This Book#

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The obvious business growth prospects in a certain industry do not necessarily bring obvious profits to investors.
Even experts do not have reliable methods to pick the best companies in promising industries and invest large amounts of money in those stocks.

Comments

A smart investor must have patience, discipline, and a desire to learn; additionally, they must be able to manage their emotions and engage in self-reflection.
To become a smart investor, character is more important than intelligence.

Chapter 1: Investment vs. Speculation#

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Most of the time, investors must recognize that the common stocks they hold often contain some speculative components. Their task is to keep the speculative components within a small range and be financially and psychologically prepared to face short-term or long-term adverse consequences.
In many cases, speculation is not a wise move, especially in the following situations: (1) thinking they are investing when they are actually speculating; (2) treating speculation as a serious matter rather than a pastime without sufficient knowledge and skills; (3) investing too much money in speculation beyond their capacity to bear losses.
Any non-professional engaged in margin trading should recognize that they are actually speculating.
Anyone rushing to buy so-called "hot" stocks or similar behaviors is also speculating, or in other words, gambling.
To achieve sustained and reasonable opportunities for superior performance, investors must follow two strategies: (1) strategies with inherent robustness and hope for success; (2) strategies that are not popular on Wall Street.

Comments

According to Graham's definition, investing includes the following three equally important factors:
1. Before buying a stock, thoroughly analyze the company's stability and its underlying business, studying the facts according to recognized safety and value standards.
2. Protect oneself carefully to avoid significant losses, preventing losses under normal or reasonable conditions and market changes.
3. Only expect "adequate" performance, do not expect too much, meaning investors are willing to accept any rate of return or amount of return as long as their actions are rational.
Wall Street, like Las Vegas or a racetrack, has set the odds of winning and losing in favor of the house, thus ultimately defeating anyone trying to win in its speculative games.
A smart investor will never sell their stocks merely because the price has dropped; they should first consider whether the company's underlying business has changed.
The January effect: first, many investors sell low-priced, poor-quality stocks at the end of the year to lock in losses and reduce taxes owed; second, professional fund managers are more cautious at year-end to maintain their performance lead (or minimize their lagging position). Although the January effect has not completely disappeared today, it has weakened.
The future performance of stocks is determined by the quality of the underlying company's business—nothing more.
Mechanical methods aimed at achieving excess returns will become "a process of self-destruction, just like the law of diminishing returns." Mainly for two reasons:
1. If such methods are purely based on statistical luck, time alone can prove that they are meaningless.
2. If such methods were indeed effective in the past, as they become widely known, market elites will always weaken their future effectiveness and often render them completely ineffective.
When speculating, one must approach it like an experienced gambler entering a casino:
1. Speculation is speculation; never think you are investing.
2. Taking speculation too seriously can become very dangerous.
3. Strictly limit one's bets, such as never exceeding 10% of total assets.

Chapter 2: Investors and Inflation#

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Public utility companies are the biggest victims of inflation:
1. Debt costs rise sharply.
2. Due to price controls, it is difficult to raise service prices.
3. The unit costs of electricity, natural gas, and telecommunications services are growing at a rate far lower than the increase in the price index, putting these companies in a strong strategic position in the future.
4. PS: This indicates that there is a good investment window for such stocks.
Gold has almost completely failed to prevent the depreciation of the dollar's purchasing power: limit this investment to no more than 2% of total financial assets (if over 65, perhaps increase to 5%).
Do not put all your funds in one basket.

Comments

REITs: Real Estate Investment Trusts.

Chapter 3: A Century of Stock Market History: Early 1972#

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Simple and useful advice:
1. Advocate for a consistent and controllable investment strategy.
2. Do not encourage practices of "beating the market" and "picking winners."

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A smart investor cannot rely solely on the past to predict the future.
Survival bias: stock indices do not include early bankrupt companies, thus severely overestimating investors' actual returns.
The value of any investment is and will always depend on the price at which you buy it.
The stock market's movements depend on three factors:
1. Actual growth (increase in company profits and dividends).
2. Inflation growth (overall price increases).
3. Growth or decline in speculative activity (the public's interest in stocks).
Yale University finance professor Robert Shiller, through historical data examination, believes:
1. When the S&P 500 price-to-earnings ratio is above 20, subsequent market returns are usually lower.
2. When it drops below 10 times, subsequent returns can be quite good.
Staying humble like Graham can protect one from the pain of overconfidence leading to total loss.

Chapter 4: Defensive Investor's Portfolio Strategy#

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Graham does not agree with "high risk, high reward":
1. The target return for investors is more determined by the wisdom they are willing and able to invest.
2. Passive investors who prioritize convenience and safety should receive the lowest returns.
3. Smart and experienced investors, due to their maximum wisdom and skills, should receive the highest returns.
A basic guiding principle for defensive investors: the funds invested in stocks should never be less than 25% of their total funds and not exceed 75%; correspondingly, their bond investment ratio should be between 75% and 25%; the two investments should be evenly split.
If one can act like a completely unemotional and calculating gambler, they might reduce their stock investment ratio to 25% until the Dow Jones Industrial Average's dividends reach two-thirds of bond yields, then increase their stock investment ratio to 50%.
With each new wave of optimism or pessimism, we forget history and abandon some time-tested principles, yet stubbornly cling to our biases and believe in them deeply.

Comments

To become a smart investor, there are two approaches:
1. Active: Continuously research, select, and monitor a dynamic portfolio consisting of stocks, bonds, and mutual funds.
2. Defensive: Create a permanent portfolio in an automatic way without further effort (though this may seem a bit dull).
Everyone should keep a portion of their assets in cash in a risk-free safe place for emergencies.
Graham advises that funds invested in the stock market should never exceed 75% of total assets.
Determine a final asset allocation ratio; unless there is a significant change in life circumstances, do not increase the investment ratio due to a rising stock market, nor sell more due to a decline:
1. If the stock market rises, sell some stocks to bring your asset ratio back to the set ratio.
2. Adjust asset allocation in a foreseeable and consistent manner, neither too frequently to drive oneself crazy nor too infrequently to maintain a long-term imbalance in the predetermined investment ratio.
The issuance of preferred stock indicates that a company's financial situation is not healthy, and the market has no appetite for its bonds.

Chapter 5: Defensive Investors and Common Stocks#

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The stock market in 1949 can be summarized in two points:
1. Stocks largely protect investors from the losses of inflation, while bonds provide no such protection at all.
2. It can provide investors with higher average returns over the years, not only from the higher average dividend levels of better-quality bonds but also from the long-term trend of rising market value due to retained earnings reinvestment.
Although these two advantages are very important, if investors buy stocks at too high a price, these advantages will vanish.
For defensive investors, four rules can be followed:
1. Appropriate but not excessive diversification, with the number of stocks limited to at least 10 and at most 30.
2. Each selected company should be large, well-known, and financially sound.
3. Each company should have a long history of continuous dividend payments, such as 10 years, even 20 years is not harsh.
4. The purchase price should be limited to a certain price-to-earnings ratio, with the reference earnings per share taken from the average of the past 7 years: for this average, the price-to-earnings ratio should be controlled within 25 times, and based on the profits of the past 12 months, it should be controlled within 20 times.
Growth stocks: stocks whose past earnings per share growth significantly exceeds the average level of all stocks and are expected to continue to do so in the future. Investment in growth stocks has a significant speculative component, making such investment operations difficult to succeed.
For growth stocks, if the stock is chosen correctly, bought at an appropriate price, and sold after a huge rise, but before a possible decline, miracles can happen. However, for general investors, such occurrences are rare.
Lucille Tomlinson conducted a comprehensive study of the dollar-cost averaging method and concluded: regardless of how the security prices fluctuate, this investment method can confidently achieve ultimate success; to date, no other investment method has emerged that can compare with dollar-cost averaging.
What constitutes a "large, well-known, and financially sound company":
1. For an industrial company, its common stock's book value must not be less than half of its total assets (including all bank debts); for railroads or public utility companies, this limit is not less than 30%.
2. "Large" and "well-known" imply considerable scale and leading industry position, with its size in the top quarter or third of its industry.
Being overly fixated on such arbitrary standards is foolish; these standards are merely reference points, and investors should set their own standards. Different opinions and choices will not bring adverse effects. In fact, such differences are beneficial for stock trading, as they make the distinctions between leading stocks and secondary stocks more nuanced and layered.

Comments

The degree of defensiveness should not depend on the tolerance for risk but on how much time and effort one is willing to invest in their portfolio.
One should not buy stocks of the company they work for:
1. Insiders often hold a pile of illusions, and buying and selling are also subject to time windows.
2. A deeper understanding of something does not significantly reduce people's tendency to exaggerate their actual knowledge; this overconfidence is called "local bias."
3. In short, familiarity can lead to complacency.
Acknowledging one's ignorance about the future and being comfortable with that ignorance is the most powerful weapon for a defensive investor.

Chapter 6: Passive Methods of the Aggressive Investor's Portfolio Strategy#

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Buying high-grade bonds at a significant discount can yield good returns and appreciation opportunities.
Financially secure companies: pre-tax profits are 1.5 times their total interest expenses.
Secondary bonds sold at face value with interest rates of 5.5% or 6% are almost certainly not worth buying; buying such bonds at 70 is more reasonable; if one has enough patience, it may be possible to buy at this price.
Investors should take a cautious attitude toward newly issued securities: that is, carefully evaluate and conduct unusually strict testing before placing orders.
Two finance professors pointed out that companies tend to sell shares to the public when the stock market is near its peak.
During bull markets, many non-listed companies often take the opportunity to go public.
The public's carelessness, along with underwriters willing to sell anything as long as there is money to be made, will only lead to one result: price collapse.
Being able to resist the sweet talk of new stock issuers during a bull market is a fundamental condition for becoming a smart investor.
A smart investor should not take on huge losses to earn short-term profits.

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For a smart investor, junk bonds are merely an option, not an obligation to buy.
Wise investors typically do not purchase foreign bonds exceeding 10% of their total assets.
Do not buy emerging market funds with annual management fees exceeding 1.25%.
Short-term trading—holding stocks for a few hours—is the best self-destructive weapon ever invented by humans.
High-yield IPO stocks are mostly taken by specialized small groups.
The meaning of IPO not only refers to "Initial Public Offering" but can also be an abbreviation for the following phrases:
1. It’s Probably Overpriced
2. Imaginary Profits Only
3. Insiders’ Private Opportunity
4. Idiotic, Preposterous, and Outrageous

Chapter 7: Active Methods of the Aggressive Investor's Portfolio Strategy#

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The definition of growth stocks is: not only have past performances exceeded the average level, but they are also expected to continue to do so, characterized by generally larger market price fluctuations.
Investing in growth stocks faces two unexpectedly complex situations:
1. Common stocks with excellent performance records and promising looks also have correspondingly high prices.
2. Judgments about the future may be wrong.
Graham insists on calculating price-to-earnings ratios based on average profits over many years.
To achieve better results than general investments over a long time, operational strategies must have two advantages:
1. Must meet objective or reasonable standards required for basic robustness.
2. Must differ from the strategies adopted by most investors or speculators.
Choose less popular large companies; the market may underestimate those temporarily out of favor due to unsatisfactory development:
1. They can rely on capital and human resources to weather difficulties and regain satisfactory profits.
2. The market may respond more quickly to any improvements in company performance.
3. Selecting the 10 stocks with the lowest price-to-earnings ratios in the index has advantages in the long run; this method is called the "Dogs of the Dow" investment method.
Choose to buy cheap securities:
1. Definition: based on analysis, the value of the security should be significantly higher than its selling price, at least 50% higher than its price.
2. Evaluation method for finding: after estimating future profits, multiply by a coefficient corresponding to the specific security.
3. Second method for finding: the value obtained by private owners from the enterprise focuses more on realizable asset value, especially emphasizing net current assets or working capital.
4. The courage shown in the cheap securities market comes not only from past experience but also from the application of reasonable value analysis methods.
Investors must conduct prudent investments; merely observing profits and stock prices falling is not enough; they should also require:
1. Profits over the past 10 years or longer should at least have good stability (no years of profit deficits).
2. The company should have sufficient size and financial strength to cope with potential future difficulties.
3. Therefore, the ideal situation is: the stock price of a well-known large company is significantly lower than its past average price and significantly lower than its past average price-to-earnings ratio.
Long-term neglect or unpopularity is an important reason for low stock prices; another reason for low stock prices is that the market does not understand the company's actual profit situation:
1. The easiest type of security to identify is: priced lower than the company's net operating capital (after deducting all preferred debts).
2. "Net operating capital" refers to the company's current assets (such as cash, marketable securities, and inventory) minus all liabilities (including preferred stock and long-term debt).
Medium-sized enterprises have enough strength to weather difficulties, and they have genuinely better growth opportunities than existing large enterprises.
The huge profits from buying cheap securities of second-tier companies come from many aspects:
1. Higher dividend returns.
2. Profits available for reinvestment relative to the price paid are considerable, thus ultimately affecting stock prices.
3. During bull markets, the prices of low-priced securities are generally higher, which raises the prices of general cheap securities to at least a reasonable level.
4. Even during relatively calm market periods, price adjustment processes will continuously occur, so that undervalued second-tier securities will at least rise to the price levels they should typically have.
5. Many specific factors that lead to disappointing profit records can be corrected due to the emergence of new situations, the adoption of new policies, and changes in management.
6. Large enterprises acquiring small enterprises.
Do not buy securities involved in legal disputes; this is a valid survival rule for everyone (except the boldest investors).
Defensive investors should follow three elements: basic safety, simple selection methods, and the prospect of obtaining satisfactory structures.
Do not buy three types of securities at "full price": foreign bonds, general preferred stocks, and second-tier common stocks (fair business value of the enterprise) should be purchased at two-thirds of the price.

Comments

Hindsight is always perfectly clear, but predicting in advance is inevitably blind; thus, for most investors, timing trades is practically and psychologically impossible.
If a company's stock price is too high, it is not a very good investment object.
The higher the stock price rises, the more likely it seems to continue rising. But this contradicts the fundamental law of financial physics: the larger the company, the slower the growth rate.
Allocate one-third of stock funds to purchase mutual funds of foreign (including emerging market) stocks to help mitigate risks.

Chapter 8: Investors and Market Volatility#

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The further people are from Wall Street, the more the boasts about predicting or timing the stock market become questionable.
We cannot logically or based on actual experience believe that any ordinary or general investor can predict market trends more successfully than the public (of which they are a part).
Timing trades have no practical value for investors unless they happen to coincide with valuation methods: that is, unless they allow investors to repurchase their stocks at prices significantly lower than their previous selling prices (i.e., cashing out).
Some methods gain support and become important because they perform well at a certain moment, or sometimes simply because they seem to fit past statistical records; but as they become accepted by more people, their reliability generally declines:
1. Over time, new situations may arise that previous methods cannot adapt to.
2. In stock market trading, a widely popular theory can itself influence market behavior, thus weakening the long-term profitability of that theory.
Ordinary investors cannot successfully predict stock price changes through effort.
Almost all bull markets have some common characteristics:
1. Price levels reach historical highs.
2. Price-to-earnings ratios are very high.
3. Dividend yields are low compared to bond yields.
4. A large amount of margin speculative trading.
5. Many new common stock issuances of poor quality.
The longer a bull market lasts, the more severe the forgetfulness of investors becomes.
Any money-making method in the stock market, as long as it is easy to understand and adopted by many, will inevitably fail to last due to its simplicity and ease:
1. Over time, it will revert to natural trends, i.e., "regression to the mean."
2. Many people quickly adopt this stock-picking scheme, destroying the joyful atmosphere enjoyed by early adopters.
Ben Graham's conclusion applies to both philosophy and Wall Street: "All good things are both rare and complex."
Compared to large enterprises, second-tier companies (now equivalent to thousands of companies outside the S&P 500) have greater price fluctuations; however, this does not mean that a carefully selected group of small companies will perform worse in the long run.
A true investor is unlikely to believe that daily or monthly fluctuations in the stock market will make them richer or poorer.
Significant market rises can immediately bring people a sense of appropriate satisfaction and cautious concern, while also generating strong impulses for recklessness.
Even smart investors may need strong willpower to prevent their herd behavior.
As a true investor, one can find satisfaction in the idea that their business operations are exactly the opposite of the general public.
When paying market premiums, investors take on significant risks because they must rely on the stocks themselves to justify the rationality of their investments:
1. Net asset value, book value, on-balance-sheet value, and tangible asset value all refer to net worth, which is the total value of a company's physical and financial assets minus all liabilities.
2. This value can be calculated based on the balance sheets in the company's annual and quarterly reports: from total shareholders' equity, subtract the value of all "soft" assets such as goodwill, trademarks, and other intangible assets.
The entire stock market quotation system contains an inherent contradiction: the better a company's past record and future prospects, the less its stock price is related to its book value.
1. However, the larger the premium over book value, the more unstable the basis for determining the company's intrinsic value becomes.
2. This "value" becomes increasingly dependent on changes in market sentiment and capacity.
3. Thus, we ultimately face a paradox: the more successful a company is, the greater the potential fluctuations in its stock price.
4. The reason is that the higher the assumed future growth rate and the longer the expected time, the greater the margin of error, and even a small calculation error can lead to high costs.
For prudent investors, it is best to focus on purchasing stocks priced close to the company's tangible asset value—such as no more than one-third above the tangible asset value; in addition, investors must also require: a reasonable price-to-earnings ratio, a sufficiently strong financial position, and profits that will not decline in the coming years.
On Wall Street, one cannot expect anything significant to happen exactly as it did before.
If making valuable predictions about stock price fluctuations is nearly impossible, then doing so for bonds is completely impossible.
The price fluctuations of convertible bonds and preferred stocks result from the combined effects of the following three different factors:
1. Changes in the prices of related common stocks.
2. Changes in the company's credit status.
3. Changes in overall interest rate levels.

Comments

Mr. Market's task is to provide you with prices, while your task is to determine whether these prices are favorable to you.
Smart individual investors can freely choose whether to follow Mr. Market.
Investment activities are not about defeating others in their game but about controlling oneself in one's own game.
The entire meaning of investment is not to earn more money than the average person, but to earn enough money to meet one's needs.
Our brains are naturally inclined to perceive trends, even when trends do not exist.
The pain of one's own losses is twice the pleasure of equivalent profits.
For anyone making long-term investments, a continuous decline in stock prices is excellent news.
Investors who frequently obtain the latest news stories receive returns only half that of those who do not care about stock market news.

Chapter 9: Fund Investment#

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These professionals can completely determine the direction of the stock market average, and the direction of the stock market average can completely determine the overall results of the funds.
Fund managers are engaging in excessive speculative risks and temporarily achieving excessively high returns.
Smaller size is a necessary factor for consistently achieving excellent results.
Funds that can sustainably outperform the market average over a long time: most businesses focus on specialized areas, self-limit their use of capital, and do not sell large amounts to the public.

Comments

In financial markets, luck is much more important than skill.
Buying funds solely based on past performance is one of the most foolish things investors can do.
Any single most profitable and therefore most popular industry often becomes the worst-performing industry the following year.
After researching mutual funds, financial experts unanimously propose the following points:
1. General funds cannot select good stocks by incurring research and trading costs.
2. The higher the fund's fees, the lower the returns.
3. The more frequently fund shares are traded, the smaller the chances of making money.
4. Highly unstable funds (those with greater average upward and downward movements than the average) may remain in an unstable state for a long time.
5. Funds that have had high returns in the past are unlikely to remain winners for long.
A fund that cannot outperform the market can still provide great value—offering a cheap method of asset diversification.
To succeed, individual investors should either avoid picking the same hot stocks as large institutions or hold these stocks more patiently.
In the long run, index funds will outperform most funds, but they should be selected with low management fees.
Graham and Buffett praise index funds as the best choice for individual investors.
Characteristics of excellent funds:
1. Experiences are primarily from the largest shareholders.
2. Low fees.
3. Willingness to be different.
4. Do not accept new investors.
5. Do not advertise.
By type, the annual operating expenses of funds should not exceed the following levels:
1. Taxable municipal bonds (0.75%).
2. U.S. large and mid-cap company stocks (1.0%).
3. High-yield junk bonds (1.0%).
4. U.S. small-cap company stocks (1.25%).
5. Foreign stocks (1.5%).
Yesterday's winners often become tomorrow's losers, but yesterday's losers almost never become tomorrow's winners: do not buy funds that have consistently performed poorly, especially when their annual fees exceed the average.
When to sell a fund:
1. When the trading strategy suddenly changes dramatically.
2. When fees rise.
3. When excessive trading leads to frequent large tax bills.
4. When abnormal returns suddenly occur.
When something can actually be predicted, believing oneself to be able to make predictions is a rational viewpoint. If it is divorced from reality, it is merely blind self-esteem behavior that will ultimately end in self-failure.

Chapter 10: Investors and Investment Advisors#

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Investment advisors: use their high-level skills and experience gained through training to prevent clients from making mistakes and ensure they receive the investment income they deserve.
If investors primarily rely on others' advice in using funds, they must strictly limit themselves and their investment advisors to formulaic, conservative, or somewhat dull investment methods, or they must be very familiar and trust the person guiding their investment channels.
True investment advisors are quite conservative in their commitments and advice; they do not claim to be wiser than others, and their pride lies in being careful, steady, and competent:
1. The main goal is to retain the principal value over a longer period and achieve a relatively steady growth rate of income.
2. Any other achievements are considered extra services.
Financial service companies have been making predictions about the stock market, but no one takes this activity seriously. Of course, their understanding and predictions of corporate operating conditions are more authoritative and enlightening.

Comments

The best advisors are already full of clients and are therefore unwilling to accept you unless you appear to be able to cooperate well with them.

The Intelligent Investor Reading Notes (Part 2) Make the world a better place

Graham's significance to investing is as important as Euclid's to geometry and Darwin's to biological evolution.

Chapter 11: General Methods of Securities Analysis for Ordinary Investors
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Chapter 11: General Methods of Securities Analysis for Ordinary Investors#

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Securities analysts should focus on the past, present, and future of a certain security:
1. Introduce the business of the enterprise, summarize its operating results and financial status, point out its shortcomings, and the possible outcomes and risks it may face.
2. Estimate its future profitability based on various assumptions or "best guesses."
3. They may need to adjust the data in the company's annual reports significantly, especially focusing on things that may have been exaggerated or understated in those reports.
4. Design and use some safety standards, mainly involving past average earnings, while also considering capital structure, working capital, asset value, and other aspects.
Mathematical valuation methods are very popular in areas where people think they are not very reliable:
1. The higher the predicted growth rate and the longer the term, the more sensitive the prediction is to small errors.
2. Investors must be highly vigilant against those who claim to solve basic financial problems using complex calculations.
3. Graham said: In 44 years of experience and research on Wall Street, I have never seen a reliable algorithm regarding the value of common stocks or related investment policies, except for simple arithmetic and recent algebra. Once calculus or higher algebra is used, it should be seen as a warning that the operator is attempting to replace experience with theory, and usually also trying to disguise speculation as investment.
The most reliable and therefore most valued aspect of securities analysis is the focus on the safety or quality of bonds and investment-grade preferred stocks:
1. Bonds: how many times past profits cover total interest expenses in certain years.
2. Preferred stocks: how many times profits cover bond interest and preferred stock dividends.
3. Recommendations for the new era: the percentage of profits obtained relative to bond principal, 33% for industrial enterprises, 20% for public utilities, and 25% for railroads.
In addition to profit protection standards, other standards can generally be used:
1. Company size: there is a minimum standard in terms of the company's business size and the population of the city (different standards for industrial enterprises, public utilities, and railroads).
2. Stock-to-equity ratio: the ratio of the market value of common stock to the total face value of debt (or debt plus preferred stock), which roughly reflects the protection or "buffer" provided by common stock investment.
3. Property value: the value reflected in the balance sheet or asset appraisal value; experience shows that in most cases, safety depends on the company's profitability; if this aspect is lacking, most of the presumed asset value will be lost; however, for public utilities, real estate companies, and investment companies, asset value is a very important independent standard for many bonds and preferred stocks.
The history of the investment field shows that in the vast majority of cases, if bonds and preferred stocks can meet the strict safety standards determined by past performance, they can successfully cope with future changes in circumstances.
Judging future safety based on past records is more applicable to public utility organizations, which are the main area for bond investment.
When purchasing bonds and preferred stocks of industrial enterprises, one should limit themselves to those larger companies that have been able to withstand severe pressure in the past.
Investors cannot permanently rely on favorable environments, so when selecting industrial or other corporate bonds, they should not relax their standards.
For most investors, the ideal choice is to purchase an overall stock market index fund, which is a cheap way to hold every stock worth buying.
Factors affecting capitalization rates:
1. Overall long-term prospects: sometimes price-to-earnings ratios may be wrong; Wall Street's consensus view of a certain industry's future is usually either overly optimistic or overly pessimistic. History has proven that Wall Street's "expert" predictions are neither capable of predicting the performance of the entire market nor of predicting the performance of a specific industry or stock. As Graham pointed out, individual investors are also unlikely to do better; the excellent performance of smart investors comes from their decisions not being based on anyone's (including their own) accuracy in predicting outcomes.
2. Management: if a method cannot be designed to objectively, quantitatively, and reliably test the management's ability, this factor can only be vaguely examined. The situation only becomes important when recent changes have occurred, and the effects of those changes have not yet been reflected in actual data.
3. Financial strength and capital structure: at the same price, companies with the same earnings per share but with large bank loans and preferred securities are less worthy of holding than companies with only common stock and substantial surplus cash.
4. Dividend record: years of continuous (such as over 20 years) dividend payments are an important favorable factor reflecting the quality of a company's stock; defensive investors can only purchase stocks that meet this standard.
5. Current dividend yield: this has changed; U.S. tax laws neither encourage investors to seek dividends nor encourage companies to distribute dividends.
The following concise growth stock valuation formula is very close to the results obtained from some more complex mathematical calculations:
1. Value = Current (normal) profit * (8.5 + twice the expected annual growth rate).
2. The growth rate should be the expected growth rate for the next 7-10 years.
In fact, analysts cannot practically estimate the appropriate multiplier for current profits, nor can they estimate the expected multiplier for future profits.
"Scientific" stock valuations based on future expected results must consider future interest rate conditions.
Researching the economic conditions of an industry and a specific company will yield valuable insights into important factors that will play a role in the future, but the current market does not seem to be aware of this.
However, the actual value of most industry research aimed at investors is not very high because the materials unearthed are generally very familiar to the public and have already had a significant impact on market prices.
Wall Street's judgments about the distant future are very poor, which inevitably makes the important content of its research (predictions about profit changes in various industries) also very poor.
If investment conclusions mainly come from judgments about the future without obvious current value support, there is a risk; however, being overly rigid about strictly calculating value ranges based on actual results also carries the risk of missing out on excellent opportunities.
Two-step evaluation process:
1. Use a formula to calculate various weights based on past profitability, stability, growth rates, and current financial conditions.
2. The value based entirely on past performance should be adjusted to what extent based on new expected future situations.
3. Reports should reflect both initial values and adjusted values, as well as reasons for adjustments.
Smart analysts will limit their work to the following industry groups:
1. Industries where the future seems reasonably predictable, which should not overly rely on unpredictable factors such as interest rate changes, future price trends of raw materials like oil and metals; industries such as gambling, cosmetics, alcohol, nursing homes, and waste recycling are more predictable.
2. The value of past performance relative to current prices has a large margin of safety.

Comments#

Graham believes that five factors are decisive:
1. The company's "overall long-term prospects."
2. The level of the company's management.
3. The company's financial strength and capital structure.
4. The company's dividend record.
5. The company's current dividend payout rate.
Long-term prospects: obtain five years of annual financial reports and at least one year's quarterly financial statements, organize and collect evidence to answer two decisive questions: What are the reasons for the company's growth? Where do the company's current (and future) profits come from? Issues to note include:
1. The company is a "serial acquirer," averaging more than 2-3 acquisitions per year suggests potential trouble; after all, if a company itself believes it should buy shares of other companies rather than invest in its own. Verify the company's past acquisition records; an overly greedy company may ultimately spit out large companies it has swallowed, suffering heavy losses. If the acquisition price is too high, it may lead to long-term asset write-offs or accounting impairments, which is an ominous sign for future business.
2. OPM (Other People’s Money) addicts, who inflate the total amount of "other people's funds" through borrowing or selling shares. In the cash flow statement, these funds are called "cash from financing activities," which makes a troubled company appear to be growing, even if its core business does not generate enough cash, meaning operating cash flow is consistently negative while financing cash flow is consistently positive.
3. The company is not very flexible, with most of its income coming from one (or a few) customers.
4. The company should have broad "defensive works" or competitive advantages, such as a strong brand image, monopoly or near-monopoly in the market, economies of scale, unique intangible assets, or irreplaceability.
5. The company is a long-distance runner, not a sprinter; it is necessary to check whether the company's revenue and net profit have steadily grown over the past 10 years, with a 10% pre-tax profit growth being sustainable; higher growth rates (or sudden rapid growth within 1-2 years) will inevitably slow down.
6. The company is diligent in sowing and harvesting; companies with no R&D expenditures are at least as fragile as those that overspend.

Comments#

The quality and behavior of management: the executives of the company should be consistent in their words and actions; review past annual reports to verify what predictions managers have made and whether they have achieved their goals. Managers should sincerely acknowledge their mistakes and take responsibility, rather than using general reasons such as "overall economy," "uncertainty," or "insufficient demand" as scapegoats. Check whether the tone and content of the chairman's speech are consistent over time or whether they fluctuate with recent Wall Street trends:
1. Are they seeking to maximize their own interests, such as excessively high salaries or stock option repricing?
2. Are the executives managers or salespeople? Executives should spend most of their time managing internal affairs rather than promoting their companies to public investors; accounting practices should make financial results more transparent rather than more obscure.
Financial strength and capital structure: the basic definition of a good company is that the funds obtained must exceed the funds consumed:
1. Focus on owners' equity, net income + amortization and depreciation - normal capital expenditures, meaning how much cash would be left in your pocket at the end of the year if you fully owned the company.
2. Projects to be deducted include: all costs of distributing stock options, any "abnormal," "one-time," or "special" expenses, any "income" from the company's pension fund.
3. If the overall owners' equity grows at a rate above 6% or 7%, it indicates that the company has stable cash flow and good growth prospects.
4. Next, look at the company's capital structure; generally, long-term debt should be less than 50% of total capital, and determine whether long-term debt is fixed or floating rate.

Comments#

Regarding dividends:
1. Companies must prove that not paying dividends will result in better outcomes for shareholders, such as consistently winning in competition.
2. Companies that continuously split their stock treat investors as fools.
3. Shares should be repurchased when prices are cheap, not when at or near their peak; otherwise, executives may sell their stock options for profit under the guise of "enhancing shareholder value."

Main Text

The chapter focuses on analyzing the earnings per share (EPS) financial metric and how to correctly understand and use it. This chapter is crucial for investors as it helps them deeply understand the role and limitations of EPS in investment decisions.

Definition of EPS: Graham explains that earnings per share is the company's net profit divided by the total number of outstanding common shares.
Calculation Details: Discusses various factors to consider when calculating EPS, such as preferred stock dividends, non-recurring earnings and losses, and the issuance or repurchase of shares.

Importance and Limitations of EPS#

Profitability Indicator: EPS is a key indicator of a company's profitability and is widely used to assess stock value.
Limitations: Graham points out that EPS does not fully reflect a company's financial health, especially if other factors such as asset quality, debt levels, and cash flow are not considered.

Analyzing and Interpreting EPS#

Long-Term Trends: Investors are advised to focus on the long-term trends of EPS rather than single-year data to obtain a more accurate picture of a company's profitability.
Quality Assessment: Evaluate the quality of EPS, identifying and adjusting for non-recurring earnings or losses, as well as other one-time events that may affect EPS.

Strategies for Using EPS#

Valuation Comparison: Use EPS to compare with stock prices to calculate the price-to-earnings ratio (P/E Ratio) as a tool for assessing whether a stock is overvalued or undervalued.
Peer Comparison: Compare a company's EPS with other companies in the same industry to assess its performance within the sector.

Cautions#

Manipulation of EPS: Warns investors to be cautious as some companies may manipulate EPS through accounting practices, misleading investors.
Comprehensive Analysis: Emphasizes that when using EPS as a basis for investment decisions, it is essential to conduct a comprehensive analysis that includes other financial and non-financial information about the company.

Conclusion#

Auxiliary Tool: Graham concludes that while EPS is a useful analytical tool, investors should consider it as part of a broader analysis rather than the sole basis for decision-making.

Through this chapter, investors can better understand the calculation methods, importance, limitations, and how to reasonably apply this metric in actual investment analysis.

Chapter 13: Comparison of Four Listed Companies#

Main Text

"Comparison of Four Listed Companies" is a chapter in The Intelligent Investor where Benjamin Graham showcases how to apply his investment principles to evaluate different companies through in-depth comparisons and analyses. This chapter provides readers with practical examples of applying Graham's investment methods.

Criteria for Selecting Companies#

Industry and Financial Data: Graham likely selected companies from different industries and provided detailed financial data for each, such as revenue, profits, liabilities, and market capitalization.
Market Performance: Analyzed how these companies performed in the stock market, including stock price fluctuations and price-to-earnings ratios.

Comparison Methods#

Financial Health: Compared the financial health of each company, including asset-liability structure, profitability, and cash flow status.
Growth Potential: Assessed the growth potential of each company, including industry position, market trends, and management quality.
Investment Risks and Returns: Analyzed the potential risks and returns of investing in these companies, including dividend yields and the likelihood of stock price growth.

Depth of Analysis#

Management Assessment: May include evaluations of company management, such as their business strategies, performance records, and corporate governance.
Market Sentiment and Actual Value: Discussed how market sentiment affects stock prices and how it can lead to overvaluation or undervaluation of companies.

Investment Decisions#

Application of Value Investing Principles: Each case demonstrates how to apply value investing principles to assess the investment value of stocks.
Balancing Risks and Opportunities: Analyzed the potential risks and returns of investing in these companies and how to find a balance between the two.

Educational Significance#

Importance of Practical Application: Emphasized the importance of applying theoretical knowledge to practical operations through specific case studies.
Investment Decision Process: Showed how investors should conduct comprehensive analyses and make decisions in different situations.

Conclusion#

Necessity of Comprehensive Analysis: Graham concludes that successful investing requires a comprehensive consideration of various factors, including financial data, market performance, industry conditions, and company management.

Through these detailed comparisons of four listed companies, Graham not only demonstrates how to evaluate the investment value of stocks but also emphasizes the importance of comprehensive analysis when making investment decisions in different situations.

Chapter 14: Stock Selection for Defensive Investors#

Main Text

"Stock Selection for Defensive Investors" is a chapter in The Intelligent Investor that focuses on providing stock selection advice and strategies for defensive investors seeking stable and lower-risk investment returns.

Characteristics of Defensive Investors#

Risk Preference: Defensive investors typically prefer low-risk, stable-return investments, prioritizing capital protection over high returns.
Investment Goals: The main goal is to avoid significant losses and achieve reasonable returns rather than pursuing high yields.

Stock Selection Criteria#

Financial Stability of Companies: Choose companies with stable financial conditions, such as low debt levels and strong cash flow.
Stable Profit History: Look for companies with a long history of stable profits, indicating a good business model and market position.
Continuous Dividend Payments: Favor companies with a long history of continuous dividend payments, as this indicates stability in earnings and cash flow.

Risk Management#

Diversified Investments: Diversify investments across different industries and companies to spread risk.
Avoid Overvalued Stocks: Avoid purchasing stocks that are highly valued in the market, as this may pose higher risks.

Price Considerations#

Market Price vs. Intrinsic Value: Graham advises investors to consider whether the market price of stocks is reasonable relative to their intrinsic value when purchasing.
Seek Value: Look for stocks whose market prices may be below or equal to their fair value.

Long-Term Holding#

Holding Strategy: Encourage defensive investors to adopt a long-term holding strategy to reduce costs and tax burdens associated with frequent trading.
Patience and Discipline: Maintain patience and discipline, adhering to established investment principles without being disturbed by short-term market fluctuations.

Conclusion#

Value of Prudent Investment Choices: Graham concludes that defensive investors should focus on prudent investment choices, protecting capital and achieving reasonable returns through careful stock selection and management.

This chapter provides practical stock selection guidance for investors seeking conservative investment strategies, emphasizing the importance of risk control and a long-term perspective.

Chapter 15: Stock Selection for Aggressive Investors#

Main Text

"Stock Selection for Aggressive Investors" is a chapter in The Intelligent Investor that specifically discusses how to choose suitable stocks for aggressive (or enterprising) investors. This chapter focuses on specific stock selection standards and methods, providing guidance for those willing to conduct in-depth analysis to seek higher returns.

Characteristics of Aggressive Investors#

Risk and Return: Aggressive investors are typically willing to take on higher risks to achieve higher potential returns.
Active Management: These investors tend to manage their portfolios more actively, including selecting individual stocks and timing their investments.

Stock Selection#

In-Depth Analysis: Aggressive investors need to conduct more in-depth and detailed analyses when selecting individual stocks. This includes assessing the company's financial condition, management team, business model, and market prospects.
Seeking Value: They look for stocks that the market has failed to properly assess, meaning stocks whose market prices are below their actual values.

Market Timing#

Market Trends: Aggressive investors may attempt to judge market trends and adjust their portfolios based on these trends.
Counter-Cyclical Operations: Graham warns investors to be cautious of excessive optimism or pessimism in the market and may take counter-cyclical actions during these times.

Risk Management#

Diversification: While aggressive investors may concentrate their investments in certain stocks, they still need to maintain a degree of diversification to mitigate risks.
Stop-Loss and Risk Control: It is advisable to establish clear stop-loss points and risk control strategies.

Continuous Learning and Adaptation#

Changes in Market and Economy: Aggressive investors need to continuously learn and adapt to changes in the market and economy.
Adjustment of Strategies: Investment strategies may need to be adjusted as market conditions change.

Conclusion#

Discipline and Patience: Even aggressive investors need to maintain discipline and patience to achieve long-term investment goals.

Chapter 7 provides valuable guidance for investors seeking higher returns and willing to conduct more research and actively manage their portfolios, emphasizing the importance of in-depth analysis, market timing judgment, risk management, and continuous learning and adaptation to market changes.

Chapter 16: Convertible Bonds, Optional Stocks, etc.#

Discusses convertible bonds, optional stocks, and other investment tools.

Chapter 16 "Convertible Bonds, Optional Stocks, etc." is a chapter in The Intelligent Investor that discusses special types of investment tools. This chapter focuses on analyzing the characteristics, risks, and investment strategies of convertible bonds, optional stocks, and other investment tools.

Convertible Bonds#

Definition and Characteristics: Convertible bonds are bonds that can be converted into a certain number of company stocks. Graham explains the characteristics of convertible bonds, including how they combine the attributes of both bonds and stocks.
Risks and Returns: Discusses the risks and potential returns of convertible bonds, particularly their correlation with company stock prices.

Optional Stocks#

Definition and Characteristics: Optional stocks are bonds that give holders the right to purchase stocks at a specific price in the future. Graham discusses the structure and investment value of optional stocks.
Investment Strategies: Analyzes the potential advantages and risks of investing in optional stocks and how to assess their effectiveness as investment tools.

Other Investment Tools#

Special Situation Investments: Graham may also discuss other special situation investment tools, such as warrants, preferred stocks, etc.
Evaluation Methods: Provides methods for evaluating these complex financial instruments, including their risks, potential returns, and the impact of market conditions.

Risk Management#

Diversified Investments: Emphasizes the importance of diversification when investing in these special tools to reduce uncertainty and risk associated with specific investments.
Market Volatility: Analyzes how market volatility affects the value and performance of these tools.

Conclusion#

Prudent Analysis: Graham concludes that while these special investment tools may offer attractive opportunities, investors should conduct thorough research and prudent analysis to ensure they fully understand the characteristics and risks of these tools.

Chapter 16 provides in-depth analysis and practical advice for investors interested in complex investment tools. Graham emphasizes the importance of understanding these tools thoroughly and considering risk management in investment decisions.

Chapter 17: Four Extremely Educational Cases, etc.#

"Four Extremely Educational Cases, etc." is a chapter in The Intelligent Investor where Benjamin Graham showcases how to apply his investment principles through four specific case studies. The purpose of these cases is to provide readers with practical references for applying the theories in the book to actual investments.

Selection of Case Studies#

Different Types of Companies: Graham likely selected companies from different industries, sizes, and market performances as case studies.
Specific Situation Analysis: Each case involves specific financial data, market conditions, management strategies, and industry backgrounds of the companies.

Analysis Methods#

Financial Data Analysis: Demonstrates how to analyze and interpret company financial reports, including income statements, balance sheets, and cash flow statements.
Market Assessment: Discusses how to evaluate a company's performance in the stock market, including stock price trends, price-to-earnings ratios, and dividend yields.

Investment Decisions#

Application of Value Investing Principles: Each case demonstrates how to apply value investing principles to assess the investment value of stocks.
Balancing Risks and Opportunities: Analyzes the potential risks and returns of investing in these companies and how to find a balance between the two.

Educational Significance#

Importance of Practical Application: Emphasizes the importance of applying theoretical knowledge to practical operations through specific case studies.
Investment Decision Process: Shows how investors should conduct comprehensive analyses and make decisions in different situations.

Conclusion#

Necessity of Comprehensive Analysis: Graham concludes that successful investing requires a comprehensive consideration of various factors, including financial data, market performance, industry conditions, and company management.

Through these detailed case studies, Graham not only demonstrates how to evaluate the investment value of stocks but also emphasizes the importance of comprehensive analysis when making investment decisions in different situations.

Chapter 18: Comparison of Eight Pairs of Companies#

"Comparison of Eight Pairs of Companies" is a chapter in The Intelligent Investor where Benjamin Graham compares eight pairs of companies to demonstrate how to conduct detailed analysis and evaluation of different companies. This chapter provides investors with a practical method for assessing and selecting stocks through direct comparisons.

Criteria for Selecting Companies#

Diversity: These eight pairs of companies likely come from different industries, with varying market sizes and financial conditions.
Purpose of Comparison: The purpose of selecting these pairs is to show that even under similar conditions, different companies may have different investment values and risks.

Analysis Methods#

Financial Indicator Comparison: Compares financial indicators of each pair of companies, including profitability, revenue growth, debt levels, and dividend policies.
Market Performance: Analyzes how each pair of companies performed in the stock market, such as stock price history, price-to-earnings ratios, and market reactions.

Investment Decision Factors#

Intrinsic Value: Evaluates and compares the intrinsic value of each company, including their asset values and future profit potential.
Risk Assessment: Analyzes the potential risks of investing in these companies, including market risks, industry risks, and company-specific risks.

Educational Significance#

Application of Investment Strategies: Through specific cases, demonstrates how to apply Graham's investment strategies, including value investing and the concept of margin of safety.
Importance of Independent Analysis: Emphasizes the need for investors to conduct independent analysis and judgment when making investment decisions.

Conclusion#

Necessity of Comprehensive Analysis: Graham concludes that successful investing requires a comprehensive consideration of various factors, including financial data, market performance, industry conditions, and company management.

Through these detailed comparisons of eight pairs of companies, Graham not only shows how to evaluate the investment value of stocks but also emphasizes the importance of comprehensive analysis when making investment decisions in different situations.

Chapter 19: Shareholders and Management: Dividend Policy#

"Shareholders and Management: Dividend Policy" is a chapter in The Intelligent Investor that specifically discusses the impact of dividend policies on shareholders and company management, as well as how investors should respond to different dividend policies. This chapter focuses on analyzing the different ways companies distribute profits and their impact on investment decisions.

Importance of Dividend Policy#

Investor Returns: Graham emphasizes that dividends are an important component of investor returns, especially for those seeking income investments.
Company Financial Decisions: Dividend policies reflect management's decisions regarding profit reinvestment versus cash distribution to shareholders.

Types of Dividend Policies#

High Dividend Payments: Some companies may adopt high dividend payment policies, which typically attract investors seeking regular income.
Low Dividends or No Dividends: Other companies may choose to pay lower dividends or not distribute dividends at all, opting to reinvest profits for growth.

Impact of Dividend Policy on Stock Prices#

Price Reactions: Changes in dividend policies can affect stock prices; for example, an increase in dividends may be seen as a positive signal of the company's financial health.
Market Interpretation: Graham discusses how the market interprets different dividend policies, including the impact of dividend changes on investor confidence.

Investor Response Strategies#

Personal Investment Goals: Advises investors to evaluate different companies' dividend policies based on their investment goals and income needs.
Long-Term Perspective: Emphasizes the importance of maintaining a long-term investment perspective when considering dividend policies, rather than focusing solely on current dividend yields.

Management Responsibilities#

Balancing Reinvestment and Dividends: Discusses the need for management to balance reinvesting profits versus distributing dividends.
Transparent Communication: Emphasizes the importance of transparent communication with shareholders when establishing and adjusting dividend policies.

Conclusion#

Part of Investment Decisions: Graham concludes that dividend policies should be one of many factors investors consider when evaluating stocks.

This chapter provides investors with important insights into understanding and evaluating company dividend policies while emphasizing the role of dividends in overall investment decisions.

Chapter 20: "Margin of Safety" as the Core Concept of Investment#

"Margin of Safety" as the Core Concept of Investment is one of the most critical chapters in The Intelligent Investor. In this chapter, Benjamin Graham elaborates on the importance of the "margin of safety" investment principle and explains its central role in wise investing.

Definition of Margin of Safety#

Core Principle: The margin of safety refers to the principle of ensuring that the investment value is significantly higher than the price paid. In other words, it involves maintaining a sufficient gap between estimated intrinsic value and market price to mitigate investment risk.
Risk Management: Graham emphasizes that the margin of safety is key to risk management, aiming to protect investors from adverse impacts of misjudgments and market fluctuations.

Application of Margin of Safety#

Stock Investment: In stock investing, the margin of safety means buying stocks whose market prices are below their calculated intrinsic values.
Bond Investment: For bonds and other fixed-income investments, the margin of safety may involve considering the debtor's ability to repay and the recovery price of the bonds.

Estimating Intrinsic Value#

Financial Analysis: Explains how to estimate intrinsic value through analyzing the company's financial statements and business prospects.
Market Volatility: Emphasizes that investments with a margin of safety can still provide protection even amid market volatility.

Long-Term Perspective#

Patience in Waiting: Graham encourages investors to patiently wait for suitable investment opportunities, only investing when the margin of safety is sufficient.
Avoiding Overtrading: Avoid frequent buying and selling due to short-term market fluctuations, instead maintaining a long-term investment perspective.

Conclusion#

Core of Wise Investing: Graham concludes that the margin of safety is the core of wise investing, helping to achieve good returns while also aiding investors in avoiding significant losses.

This chapter's core concept is crucial for any type of investor, providing an effective method for assessing and managing investment risks while seeking reasonable returns. The concept of margin of safety has become the cornerstone of value investing philosophy.