In our last Saturday’s Course Graduates Meet, Eric Kong, our invited guest speaker from Aggregate Asset Management, lifted a passage from Benjamin Graham’s Security Analysis.
The passage immediately structured my messy thoughts the moment I saw it. I believed you have such epiphany before. Yes, it was a mind blowing experience.
The passage looks like this:
Benjamin Graham couldn’t put this better. He was spot on since 70 years ago. However, we, modern learned men, still make the same mistakes by speculating in the markets. Old habits die hard I supposed.
Technical Analysis and Chart Reading
If you are engaging in technical analysis, Uncle Ben will consider you a speculator. But do not misunderstand Ben Graham. When he said speculative, it doesn’t mean you won’t make money. He probably mean to say it is risky and harder to make money consistently. The very good traders make money from speculation but this is going to be a very small pool of people.
Really, very small pool of people. I know I am no where near.
If you still don’t get it, it is really, really, a very small pool of people who make money consistently from trading.
Big Boys and Syndicates
We have a belief that the stock prices are manipulated by a group of rich men. Such ‘pump and dump’ stories are aplenty.
Uncle Ben will shake his head if you tell him that you are going to join a group of big boys to manipulate stock prices. Push up the prices within 3 months and off load them to unknowing but greedy retail investors when the price starts to triple.
Uncle Ben didn’t explain his disapproval but I guess there are two reasons. One, not all syndicates make money. It is important everyone sticks to the game rules and play along. It just takes one member to break his promise and the whole plan collapses. All will lose money and so Big Boys are not invincible. Second, it is illegal to manipulate the markets and you may just get caught by the authorities.
Warren Buffett Style
What was most interesting is that Ben Graham would have labelled Warren Buffett as part speculator and part investor.
How can it be?! We were always taught Warren Buffett is an investor. In fact, he is the best investor!
To Uncle Ben, any investment decision that relies on future value factors involves some degree of speculation.
The society is taught to evaluate a stock or business by projecting its future earnings and cash flow, and calculate the net present value to compare with the current stock price. It is also said that we need to estimate the company’s ability to remain competitive and assess the management ability to grow the business and do many things right going forward.
Doesn’t this sound like what people perceived Warren Buffett to do? Uncle Ben wrote about the speculative element in management and competition even before Warren Buffett became rich and famous.
We are inspired by Warren Buffett’s success. It gives us hope that we can do what he does and dream of getting rich.
But, it is really, really, difficult to be Warren Buffett.
Most investors will get more things wrong than right when they copy Buffett.
Don’t get me wrong. I love Warren Buffett. He gave many wise words to us and he is a highly intelligent and ethical businessman. And because I know he is so brilliant, I cannot be like him. I think there is only one Warren Buffett in the world.
Intrinsic Value Factors
If all of the above are speculative, what should you do then?
Uncle Ben would prefer you to use intrinsic value factors like earnings, dividends and assets etc to value an investment.
However, the word ‘Intrinsic’ has been layered with various meanings through the decades. Some would think that intrinsic value as present value of future earnings. Some would take intrinsic value as current valuation. Some use historical trending.
It doesn’t matter what it means. Most importantly Uncle Ben meant that you should not be engaging in any projection to determine today’s value. Or just follow Uncle Ben’s words dearly,
The value of analysis diminishes as the element of chance increases.
Finale
Uncle Ben could have stop here but he went 2 steps further. Besides saying that market prices are voted by market participants who are technical traders, future value believers and current value buyers, there are also biases toward certain stocks (yes we favour certain stock names and detest some others) which can affect stock prices. And the last factor is the slippage and commission. The financial institutions are always out there to make a cut off every transaction. And that too, affects stock prices.
Isn’t this so elegant?
The secret of the universe is on this page – or the most valuable chart is on this page – but no discussion?!?!
Amazing!
My style is more of a combination of Buffett, Graham and Fisher – I recognize the value of a strong franchise in generate high levels of ROIC, but one should also test his margin of safety using Graham’s net-net and by using EPV to see if the current business offers safety. In short, there’s no one size fits all method. Graham’s method was indeed novel and suited his era but I believe he did not emphasize on moats or earnings quality and consistency.