Graham – Ranjit Kulkarni

Book Synopsis: Think like Graham, Invest like Buffett and Buffettology

July 13, 2023September 29, 2011 by Ranjit Kulkarni

A few days back I read a book with a title similar to this – Think Like Graham, Invest Like Buffett. While I had great expectations from it, honestly, beyond the title, there was not much in terms of depth in it. Of course, the title is a great message in itself, so I thought there would be examples of that and other stuff like that in the book. But there was not much of it in there. Lawrence Cunningham’s other book which is essentially a great collection of excerpts from Buffett’s letters to his shareholders is so much better. So while the thought of having this book and the title were great, the overall execution did not seem to make it as great a reading as I had expected.

But there was one small section in it which was absolutely like a flash of brilliance in an otherwise ordinary and repetitive book. It is a metaphorical story about a person who wants to sell his apple tree, and how he goes about evaluating various offers that people make for the apple tree. The story takes us through various stages of valuing the apple tree, starting with offers so low that they basically account for the cost of the wood one would get if the tree were cut down – something akin to scrap value. And then goes on to give examples of how one could arrive at various subjective ‘intrinsic values’ for the tree, methods based on the cost that went into planting the tree, or the value of fruits one gets from it today, or the value one could arrive if one could grow fruit yield in the future, as well as how it is important to take into account the cost of maintaining the tree farm and replanting the seeds from the fruits. Essentially taking us from the Graham thinking of ‘paying to avoid losses’ to the Buffett approach of ‘paying for high returns from predictable earnings’ in the form of a wonderful set of conversations between the tree owner and various bidders. So that was quite a nice section in the book to get the point across – Think like Graham, Invest like Buffett.

Later, a few days back, I chanced upon another book named ‘Buffettology’ – written by his daughter-in-law. Honestly I did not have great expectations from that book, specially from the investing techniques point of view. I thought it would be more a general essay on Buffett as a person, and his style from a personal view. But surprisingly, it turned out to be a good set of writings on investing techniques. While there are a lot of writings in layman terms – but the message and detail on the source of Buffett’s success are quite surprisingly crisp. The examples on what forms a great business, how to identify great businesses, and how to value them in a manner where you don’t pay too much make quite decent reading. And the details on how Buffett started with Graham’s methods, and then graduated to a combination of Fisher’s and Munger’s techniques with Graham’s soul behind them are quite a treat to read. There are also a set of writings around how he gathered exceptional wealth primarily due to combining his acute investing acumen with an access to long-term insurance float over long periods of time. It may not be news for a serious investor, but nevertheless not bad for the layman.

So two books mostly around the same topics, both trying to distil some learning from past masters, two books with different levels of good reading. But both of them with essentially a similar message – Think like Graham, Invest like Buffett.

Book Synopsis: The Intelligent Investor by Benjamin Graham

July 13, 2023April 24, 2011 by Ranjit Kulkarni

Have read “The Intelligent Investor” by Benjamin Graham many times, and every time I read it fully or even in part – I am amazed by the depth, clarity and advice laid out in the book, and relevant every bit today, irrespective of the fact that it was written in the 1940’s. Such a piece of Investment Advice is available nowhere else in such crisp form for the individual investor. It is almost like financial philosophy, akin to the ‘Bhagavad Gita’ of investing and finance for the individual investor – whenever you pick it, you learn a new piece of investment wisdom every time.

It is difficult to pick up the best parts from such a book which is so all-encompassing – it covers everything from definition of investment to specific criteria for stock selection. Here are some of the key takeaways from the book that are invaluable for the individual investor – many of which are well discussed, but still worth repeating and re-reading.

1. Investment versus Speculation: Graham presents a very clear definition of investing, which in his view, means any operation that on thorough analysis promises safety of principal and an adequate return. Anything not meeting these – i.e. there must be thorough analysis, must promise principal (he does not use ‘guarantees’ but promises), it must have adequate return (which he goes on to elaborate later), and finally, it must be like an ‘operation’ – business-like.

2. Bonds versus Stocks in Asset Allocation: He presents a simplistic 50:50 formula of allocation between fixed income bonds and stocks that works for most investors – giving a leeway of 25% on either side. i.e. at no time should the allocation of either stocks or bonds fall below 25%. The guiding rule is to keep re-adjusting this allocation when one component increases above a certain defined limit, like 60%, by selling the additional 10% of the increased component and buying the other. This does not guarantee the highest returns – but is a mechanical program that is most likely to practically work – simply because it advises selling and buying when it is counter intuitive, and “chiefly because it gives the investor something to do”.

3. Defensive versus Enterprising Investors: Graham makes a distinction between types of investors not based on risk taking abilities or age – as was traditionally thought. Return is not dependent on risk, but rather on the amount of intelligent effort that is put into an investment operation. The Defensive investor will place emphasis on avoidance of serious mistakes and losses, and seeks freedom from effort, annoyance and the need to make frequent decisions. The Enterprising investor will be able and willing to put in time and effort in the selection and tracking of securities that may appear to be better valued than the general market from time to time – which may help him achieve better returns than the market over long periods of time. Majority of investors would fall into the Defensive category. To achieve satisfactory results available to the defensive investor is easier than most people realize, to achieve superior results sought by the enterprising investor is harder than it looks.

4. The famous Mr.Market: This is perhaps the most valuable part of the book – on how to approach the widely fluctuating markets that an investor will face number of times in his investing life. Treat the market as an obliging, emotional partner in your businesses – i.e. the securities of which you own. Every day, he tells you what he thinks of the value of the share of business that you own, and offers to buy your share at a price or sell you his share at a price. Sometimes his fears overtake him offering you rock bottom prices, while sometimes he is too excited about the future offering you great prices. The best part is he does not mind being neglected – he will come back again tomorrow if you neglect him. Your best interests are then served if you only transact with him if and when you agree with his prices – the rest of the time, it is best for you to neglect him and focus on the operations of your business.

In the book, Graham goes on to provide clear stock selection criteria for defensive and enterprising investors – with great examples to help stock evaluation practically. But more than those, the clear framework based on the above – definition of investment, asset allocation, the decision on type of investor, and the attitude towards market fluctuations – are most valuable for an individual investor to go about his investment operations.

Graham’s advice and wisdom are unlikely to make anyone rich in a hurry – perhaps only when one gets old. But the principles are timeless and practical, and unlikely to be available in such fullness anywhere else in today’s financial clutter. That alone makes it a case for the ‘best book about investing ever written’ in Warren Buffett’s words, to be a guiding light on your desk throughout your investing lifetime.

How to handle volatility: Creating a mindset

July 7, 2023April 3, 2011 by Ranjit Kulkarni

I have often found that for an individual investor, the toughest thing to deal with in stock markets is volatility. And by volatility – though it means fluctuations on both sides, what is tough to deal with is basically crashing stock prices. Financial theories have often equated risk to volatility – which may have some sense when you have a need to regularly evaluate the value of your portfolio, but is perhaps otherwise meaningless for an individual investor.

The all encompassing mindset of an individual investor has to be that of preparation for crashes. While investing in the stock markets, be it through mutual funds or directly, the dominant mindset needs to be that of being prepared for at least a 30% cut at any point in time. That mindset prepares you better to deal with it when it comes.

The advantage of such a mindset is to ensure some degree of rational thinking when the crash happens, even though there may be butterflies in the stomach. Inevitably that happens. In such a scenario, I have found the Ben Graham corollary of thinking of the stock market as an emotional guy called Mr Market whose moods keep fluctuating to be most valuable. This moody guy comes up everyday and offers you a price for your businesses. You are free to buy from him, or sell to him at that price whenever you want; and best of all, you are free to ignore him if you choose to. He will still come back tomorrow. Getting these two things into your mindset – that of expecting crashes, and thinking of stock markets as an emotional guy Mr Market – are the basic starting points in your battle against volatility.

Let’s say you manage to do that – the toughest task of all. After that, deciding what to do when stocks crash becomes easier. And that depends on largely whether you have a plan on why you are in the markets in the first place. If you have, then you are likely to do whatever makes sense according to that plan. If you do not, then this crash could be a good opportunity to do so. In both cases, you are likely to be in a better position to then decide whether to buy from Mr Market, sell to him or simply ignore him.

How to decide which type of investor you should be

July 7, 2023March 29, 2011 by Ranjit Kulkarni

At the heart of any investment strategy is a key decision that the investor needs to make right at the start. This decision could change based on life circumstances and priorities (hopefully not based on swinging moods), but once made, it is important for investors to stick to that. And that decision is what type of investor should you be?

I mention this as a decision that the investor must make, because a lot of current advise seems to try and answer the question – what type of investor are you? rather than what type of investor should you be? The former, I think, is a wrong question to ask – likely to end with the right answers to the wrong question. Very often, in response to this wrong question, investors will end up with the right answers that provide characteristics like aggressive, moderate and risk-averse, derived on a questionnaire around mental make-up, age, income level, etc. Whereas, if one shifts the onus on the decision to be made by the investor – on what type of investor should I be – the next question that comes up will be – how should I decide that? Now that’s a good question to ask.

The answer to that is provided by legendary value investor Benjamin Graham in his investment classic “The Intelligent Investor”. That decision should be taken based on a simple criteria: Am I willing to put in more effort for more returns? If that is the case, I would be an aggressive (or enterprising) investor. If that is not the case, I would be a defensive investor, and should be happy with lower returns.

Very simple – like all other things in life. If you are willing to work for it, you deserve higher returns, else be happy with lower returns.

This may seem like a simple decision to make – but is not easy to stick to. A lot of investors end up trying to be both, and often with bad results. As Graham says, there is nothing like a part-time enterprising investor, because one does not know what one doesn’t know, till experience teaches it. But that is a discussion for another day.

The key is – to take this decision on what type of investor you should be, and sticking to it. Your circumstances may change in which case you may make a conscious decision to change your type. But it should be like a switch – on or off. This decision will have a bearing on the kind of portfolio that should be cultivated. Anything in between may provide excitement, but may not provide investment results.

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