These are words spoken by the most successful investor of all time. Legendary billionaire investor Warren Buffett.
If Warren Buffett dedicates his success to the fundamental investment principles learned in this book, it is worth reading. Agree?
So here we go, let’s look at some of the ideas he used to accumulate his $66 billion fortune.
The Intelligent Investor Summary and Key Takeaways
Casino or Investing
First key takeaway for investment success.
Have you been “investing” based on a feeling that others will pay you more for the investment later, than you paid? I have. And like me, you were probably speculating not investing.
The distinction between investing and speculation. It is a simple concept, yet a lot of “investors” or what Graham and Buffett would call speculators does not know the difference. This is in spite of the catastrophic effect this ignorance could have on their bank account.
Never mix the two, not in your accounts and not in your mind. It’s dangerous.
Speculation is celebrated by Wall Street, wrapped in story telling and vivid pictures of success. It’s brilliantly marketed by Wall Street and anyone who makes a profit on your trades. Doesn’t sound like something you should participate in, does it?
What is the main difference between a gambling speculator and an intelligent investor?
Good question. This will give you an idea:
- The investor calculates what the stock is worth based on underlying businesses and the speculator gambles that a stock will go up in price because somebody else will pay even more for it.
- The investor judge the market price by established standards of value like the underlying assets and business value. The speculator base their standard of value upon the market price.
Treat speculation like you would treat a visit to the Casino. Don’t take it too serious. The odds given to you by Wall Street are calibrated so you can’t win in the long run. “Investors make money for themselves, speculators makes money for their brokers.”
On the other hand, Graham will tell you that investing is a game you CAN win, If you play by the secret rules putting the odds in YOUR favor.
How can I do that? You might wonder. Read on, and let “The Intelligent Investor” enlighten you.
As an investor, first keep your principal safe, then seek a satisfying return on your money. Intelligent investing has three elements:
- Analysis of the stock and soundness of the underlying businesses.
- Deliberately protect yourself against serious losses.
- Aspire to adequate not extraordinary performance.
If you want to be an intelligent investor, you have two choices.
You can be a passive/defensive investor and you can be an enterprising/active investor.
When choosing your category, you have to remember that there is no middle ground. Enterprising investors must have a lot of knowledge about security value. Enough to call his activities a real business. If you can’t, you should be a passive investor. Trying to be a bit of both is like trying to be half a businessman, expecting half the profits. It’s not gonna happen.
There is a good chance that you will have to choose the strategies of a defensive investor. How should you invest in stocks then?
It should be SIMPLE, and there are four rules to be followed:
- You must diversify and you should hold from 10 to 30 different stocks.
- You should only buy large, prominent and conservatively financed firms.
- The firms you buy should have a long record of continuous dividend payments.
- You should set a limit on the price t0 be paid for the stock in relation to the average earnings over the past 7 years. This limit should be MAX 25 times earnings.
The enterprising investor activities consist of:
- Buying low and selling high.
- Buying carefully chosen growth stocks.
- Buying bargain issues of various types.
- Buying into special situations.
If you would like to learn more, you should definitely read all of Graham’s masterpiece.
Here are some, in my opinion, cool things you’ll learn in the book:
- Why unpopular large companies presents opportunities.
- How the market makes mountains out of molehills.
- How to take advantage of special situations.
- What to look for in bargain issues.
- How to invest in growth stocks.
- Why IPO is aggregate for “Imaginary profits only” and “It’s probably overpriced”.
Remember how Warren Buffet has praised this book? Especially two chapters and ideas have been important to his sky high success. In his own words:
“Chapters 8 and 20 (of this book) have been the bedrock of my investing activities for more than 60 years”.
Let’s dig in to those, shall we?
Market Fluctuations – Buy Low, Sell High
“The market is a pendulum forever swinging between unsustainable optimism (expensive stocks) and unjustified pessimism (cheap stocks). The intelligent investor is a realist who buys from pessimists and sells to optimists.”
You as an intelligent investor will want to profit from market swings, like that badass investor Warren Buffett does it.
Two Ways – Stay Away From One of Them.
The way NOT to do it, is how the speculators does it: trying to profit by “timing” and predicting what the stock market will do next. Wall Street and the “experts” on television use this approach, Graham does not.
The approach of the intelligent investor, is that called pricing. Here you will buy and hold stocks when the price is fair.
What Should You Do?
Buy stocks when they’re below fair value and sell when they rise above such value. Sounds simple doesn’t it?
For the defensive investor this means: just make sure you don’t overpay when you buy the stock. Market movements is only important in a practical way, because they create low price levels where you should buy and high levels where you might want to sell your stocks.
What Shouldn’t You Do?
You should NEVER sell your stocks after a big drop in price, nor buy after a big rise. We should remember that prices are only there for our convenience and don’t necessarily reflect the underlying value of the stock.
A valuable metaphor is that you should buy stocks as you would buy groceries, not as you buy perfume. Makes sense?
You would never buy vegetables because they are expensive would you? But you would definitely buy quality vegetables if they were discounted. DEFINITELY if it was discounted quality pizza. You get the idea.
In the same way, it would be stupid to buy even a superb quality stock, if it is overpriced. You need to look for fair or discounted prices.
So, how do I know if the price of a stock is fair?
You will get a good idea of that and the following by studying the book more in-depth.
- How to control the controllable, like for example your own mind.
- How to know WHEN to buy.
- How not to overpay for your stocks.
- How to take advantage of market swings.
Margin of Safety
“The thread that runs through all value investing policies.”
Imagine you’re at a casino and you bet 1 dollar on a given number on the roulette. You are paid 35 dollars if you win but you will only win 1 out 37 times. You have a negative margin of safety of two dollars. Here diversification is foolish as the more numbers you bet on, the greater is the chance that you end up loosing. If you regularly bet 1 dollar on every number you will end up losing 2 dollars every turn of the roulette wheel. If you would receive 39 instead of 35 dollars, then you will have a small but very important margin of safety. You could then be certain to win two dollars on every spin by betting on all the numbers.
This shows why Graham’s emphasis on diversification is important. Diversification only makes sense if you have a positive margin of safety that ensures you will win “the roulette game” in the long run.
Part the Waters
The margin of safety should be used as a way to distinguish real investing from gambling and speculation. Because as Graham writes in the book, the speculator might think he has a margin of safety, but it is often based on his own subjective judgement unsupported by any real evidence. On the other hand, the intelligent investor’s concept of margin of safety rest on simple arithmetic reasoning from statistical data. Also supported by practical investment experience.
“A true investment must have a true margin of safety and a true margin of safety can be demonstrated by figures, by persuasive reasoning and by reference to a body of experience.”
Get the book to find out:
- How to determine the margin of safety when buying stocks.
- The biggest hazard when buying stocks.
- Strategies to make sure you’re not overpaying.
- How to make sure your investment is “business like”.
- Two factors for good decisions and the questions to ask yourself.
- How to deal with Mr. Market.
I want to end by reminding you that the Billionaire Book Club is all about learning from billionaires and their mentors.
So imagine that you can have the mentor of billionaire investor Warren Buffett, in your pocket. That is sort of how it is to have these books in your library, direct access to the advice of billionaires and billionaire mentors.
Or get it for FREE as an Audiobook: Here’s how.
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(Disclaimer: This is a summary of the book “The Intelligent Investor”. Other investing approaches and philosophies do exist.)