The Intelligent Investor

a cynic knows the price of everything, and the value of nothing

• Oscar Wilde

Chapter 5: The Defensive Investor and Common Stocks

The investor should impose some limit on the price he will pay for an issue in relation to it’s average earnings over, say, the past seven years. We suggest that this limit be set at 25 times such average earnings, and not more than 20 times those of the last 12-month period.

Growth stocks and the defensive investor

“the term “growth stock” is applied to one which has increased its per-share earnings in the past at well above the rate for common stocks generally is expected to continue to do so in the future. Some authorities would say that a true growth stock should be expected at least to double it’s per-share earnings in ten years – ie, to increase them at a compounded annual rate of over 7.1%” ( see rule of 72 )…. “the problem lies there..since growth stocks have long sold at high prices in relation to current earnings and at much higher multiples of their average profits over a past period. This has introduced a speculative element of considerable weight in the growth stock picture and has made successful operations in this field a far from simple matter”. pp 115-116

“Of course, wonders can be accomplished with the right individual selections, bought at the right levels, and later sold after a huge rise and before the probable decline. But the average investor can no more expect to accomplish this than to find money growing on trees. “ pp 116

Factors affecting long-term growth prospects ( chapter 12 )

“Capitalization rates” and implied growth rates

Statistical criteria for portfolio inclusion, ch 13 & 14:

• Adequate size
• A sufficiently strong financial condition.
• Continued dividends for at least the past 20 years.
• No earnings deficit in the past ten years.
• Ten-year growth of at least one-third in per-share earnings.
• Price of stock no more than 1.5 net asset value
• Price no more than 15 times average earnings of the past three years.

Stock Selection for the Defensive Investor

He that resteth upon gains certain, shall hardly grow to great riches; and he that puts all upon adventures, doth oftentimes break and come to poverty: it is good therefore to guard adventures with certainties that may uphold losses.

• Sir Francis Bacon

“We were not willing to accept the prospects and promises of the future as compensation for a lack of sufficient value in hand”, pp. 365

The Past, Present and Future in Investing

“Our statement that the current price reflects both known facts and future expectations was intended to emphasize the double basis for market valuations. Corresponding with these two kinds of value elements are two basically different approaches to security analysis. To be sure, every competent analyst looks forward to the future rather than backward to the past, and he realizes that his work will prove good or bad depending on what will happen and not on what has happened. Nevertheless, the future itself can be approached in two different ways, which may be called the way of prediction (or projection) and the way of protection. “

On projections We invest in the present, but we invest for the future. And unfortunately, the future is almost entirely uncertain…Investing on the basis of projection is a fool’s errand; For most people, investing on the basis of protection – from overpaying for a stock and from overconfidence in the quality of their own judgement– is the best solution.

Chapter 6: Portfolio Policy for the Enterprising Investor: Negative Approach

The difference between a defensive vs enterprising investor is based not on the amount of risk you seek but the amount of time you are willing to put in

It is bad business to accept an acknowledged possibiity of a loss of principal in exchange for a mere 1 or 2% of additional yearly income. If you are willing to assume some risk you should be certain that you can realize a really substantial gain in principal value if things go well. pp 136-17

On New Issues “Our one recommendation is that all investors should be wary of new issues. New issues have special salesmanship behind them, which calls therefore for a special degree of sales resistance. (Additionally), most new issues are sold under “favorable market conditions”– which means favorable for the seller and consequently less favorable for the buyer “ pp 139

aka you list your house when you think you can get the highest price and make the most profit. Bull markets are characterized by an increase in IPOs

“Some of these issues may prove excellent buys – a few years later, when nobody wants them and they can be had at a small fraction of their true worth”.

From 1980 - 2001, if you had bought the average IPO at its first public closing price and held on for three years, you would have underperformed the market by more than 23 percentage points annually. pp 152

IPO stands for: It’s Probably Overpriced Imaginary Profits Only Insiders’ Private Opportunity Idiotic, Preposterous, and Outrageous

Chapter 18

The thing that hath been, it is which shall be; and that which is done is that which shall be done: and there is no new thing under the sun. Is there any thing whereof it may be said, See, this is new? it hath been already of old time, which was before us - Ecclesiastes, I:9-10