‘The Intelligent Investor’ by Benjamin Graham is a roadmap for any starting investor teaching the best practices to carry out as a beginner, as well warns the reader from the most common pitfalls one does when moving first steps into this world. This book has been defined as the “best book on investing ever written,” by the great Warren Buffett, thus making it the “bible” of investing.
Let’s now explore together the key concepts expressed in the book.
Key Concept 1: Investment and speculation are two different things.
What an Investment is
An Investment is a transaction that after careful analysis and invest your money, you’re confident it will return you profits.
What Speculation is
The act of speculating is an attempt to predict rises and falls in the market. It’s always suggested to set aside a fund that you can afford to lose when speculating and never to mix your investment money with your speculation ones.
From the two definitions above, then, we can understand that merely participating in the market doesn’t make you an investor.
Key Concept 2: Beware of Inflation
Inflation can decrease the purchasing power of any money you earn. Inflation also influences the value of the stocks and of the bonds you hold. Generally speaking, though, stocks can withstand inflation better than bonds.
That’s the cardinal principle to follow but beware that when investing, nothing is 100% sure and thus diversification is always a better choice to protect yourself from inflation.
Ideally, there are two options that you can opt for to diversify your portfolio:
Option 1: Real estate investment trusts (REIT’s). Those are companies that own and operate income-producing properties.
Option 2: Treasury inflation-protected securities (TIPS). Those are government bonds that automatically scale with inflation.
Key Concept 3: Market can’t be predicted
Many investment experts in the 1990s said that stocks were more profitable than bonds. Anyway by 2002 most of those stock prices plummeted and thus many people lost the money they invested.
Basing present decisions on past events is one of the most common investing error that beginners make. Nobody can predict future market trends, not even the best investor worldwide.
The intelligent investor ideally buys when the market is low and sells when it’s high. This, most of the times, means going against the flow, but it’s a necessary habit to take the act of thinking independently. Always assume the worst when everybody else is rejoicing but stay positive when everybody else is low.
As a beginner investor, all you have to know is that you can’t control the market, but you can manage the risks you take, the fees you pay, your tax bills and your own choices.
The best choice you can make to avoid huge losses is the “dollar-cost averaging” where you contribute to an index fund each month automatically. In any case, it’s essential to control your emotions to make the difference in the quality of your investments as that’s the only thing you can control, rather than the market itself.
Key Concept 4: Enterprising vs. Defensive Investor
The enterprising investor builds his portfolio from scratch by adopting a more aggressive style. If that’s the path, you want to take though you must avoid the pitfall of buying and selling quickly (speculation). This usually happens with over excited investors (when buying overvalued stocks) and fearful investors (selling when the price drops).
When behaving like an enterprising investor remember to never put all your eggs in one basket and that temporary unpopularity can be a great opportunity. You can also buy foreign stocks to diversify your portfolio as they don’t follow your home market trends.
The defensive investor generally creates a steady and stable portfolio that performs automatically. All you have to do as a defensive investor is to decide where to put your money upfront, then adjust the percentages between stocks and bonds accordingly to market changes. Generally, a defensive investor should find and buy the right stocks as well, allocate a bit of your investment into predetermined stocks each month.
Index funds and mutual funds are the defensive investors best friends as they foresee diversification without maintenance. You have to put a little of your money into them and forget about the rest. What’s the best strategy? According to Graham, no style is better than the one that suits your personality.
Key Concept 5: Mutual Funds vs. Index Funds
Mutual funds are cheap, convenient, diversified, and professionally managed, but they are far from perfect. Mutual funds managers try to predict the market, and that’s not good at all based on what we said before. Moreover, they have higher trading fees and tax costs because they trade frequently.
Index funds such as the S&P 500 that hold all securities in a specific market are far better. They stay on track with the market instead of beating it with low fees and work when held for long periods. Index funds suffer from ups and downs, but in the long run, they outperform regular mutual funds.
Key Concept 6: Security Analysis
To make a sound security analysis, you should download several years of report of the companies you want to invest in. Generally, companies that are worth a lot should show steady and not erratic growth over the last decade. Judge the companies based on their management, for example, leadership decisions are preferred to be consistent and accounting practices transparent.
A simple tip to follow is to see if they earn more than they spend as generally a company’s debt should not exceed more than 50% of their total capital. Do not consider short term earnings of any company and focus on long term stability and growth. Dig deep before buying stocks and track them without purchasing at the beginning.
Key Concept 7: Margin and Safety
The intelligent investor refuses to lose the majority of their money when investing. This means that you should decide a portion of your money that you want to invest and never go below that portion. Do not take risks you cannot afford to take as that’s the surest way to fail both in the short and in the long run.
Conclusion & Takeaway
Being a successful investor is not as difficult as it seems if you follow those basic principles. The most important thing you should take away from this summary is that you should learn to manage risk. One way to do this is ignoring the mood swings of the market and by keeping your emotions under control so that each decision you’ll make will be based on rationality and a long term approach. Forget about predicting the market as that’s something unrealistic and doomed to bring you to failure, focus on what you can control instead.
Author’s Short Bio
Benjamin Graham was a British-born American investor, economist, and professor considered the father of “value investing. He experienced poverty at a young age and, after graduating, he refused to teach English, mathematics, and philosophy to work instead at wall street. He was also Warren Buffett’s teacher and most significant influencer.
- Rich Dad, Poor Dad, Robert Kiyosaki.
- The Richest Man in Babylon, George S. Clason.
- Security Analysis, Benjamin Graham.
- A Random Walk Down Wall Street, Burton Malkiel.
- I Will Teach You to be Rich, Ramit Sethi.