In our 4th article for our Invest like the best series, we’re looking at the father of value investing, and the mentor of Warren Buffet – the indomitable Benjamin Graham.
Died at age
Age when started investing
Benjamin Graham was a British-born American investor, economist, and professor who is also known as the "father of value investing”. He wrote two of the most popular books on investing: Security Analysis (1934) and The Intelligent Investor (1949).
Graham graduated from Columbia University and started his career on Wall Street at the age of 20. He even employed the Oracle of Omaha himself – that’s right, Warren Buffett was his former student and the future manager of Berkshire Hathaway. Buffett described Graham as the second most influential person in his life – after his father.
As a value-based investor, you’re looking to buy shares in public companies that are trading at a price less than what they’re worth. Using some basic measurements of a company’s performance, you can determine its intrinsic value. A company’s intrinsic value is an estimate of the actual true value of a company, regardless of market value. To determine the market value, multiply the price of one share by the total number of outstanding shares (this is also known as the market capitalisation - market cap - of a company!). Once you’ve done that, you compare the company’s intrinsic value against its market value. If the intrinsic value of the company is above that of the market value, we would say the share is undervalued and this would be a buying opportunity. If the value is below that of the share, then the shares are overvalued, which means we’d expect the share price to go down.
Value investing isn’t a buy and hold philosophy. Graham believed that someone who is willing to spend the time and is familiar with the world of business may be comfortable taking advantage of ups and downs of a company’s share price with an active, buy-low, sell-high strategy.
“You are neither right nor wrong because the crowd disagrees with you. You are right because your data and reasoning are right.”
Value investing metrics
The value investor is more concerned with the company’s business, its fundamentals, rather than the other influences on the share price (e.g. economy, political climate). According to Graham, companies with high dividend yields, low price-to-earnings ratio, and low price-to-book ratios are investment worthy.
A high dividend yield
The dividend yield is a financial ratio that shows how much a company pays out in dividends each year relative to its share price. In other words, it measures the ‘bang per buck’ you are getting from dividends.
The dividend yield is equal to the annual dividend/share price. A dividend yield is considered high if it is at least two-thirds of the long-term AAA bond yield. For example, if the AAA bond yield is 3.61%, the company’s dividend yield should be at least 2.38%. The current dividend yield for Apple as of April 18, 2019, is 1.43% ($2.92/$203.86).
A relatively low price-earnings (P/E) ratio
The P/E ratio measures a company’s current share price relative to its earnings per share* and is the price an investor is paying for $1 of a company's earnings or profit.
The P/E ratio is equal to the share price/earnings per share. Apple’s P/E ratio as of April 19, 2019, is 16.76 - $203.86/$12.16. In other words, investors are paying $16.76 for each dollar of Apple profit.
*Earnings per share is a measure of how much profit a company has generated and is determined by dividing the company’s net income by the total number of outstanding shares.
A low price-to-book (P/B) ratio
The P/B ratio measures whether a share is over or undervalued by comparing the net assets* of a company to the market value, or capitalisation. The book values of assets and liabilities are easily found on the balance sheet.
The P/B ratio is equal to the market value/net assets. For many investors, a P/B ratio under 1.0 is considered low.
*Net assets = total assets minus total liabilities
Value investing is about finding an outstanding company at a sensible price. Though it’s worth noting that Graham never used the phrase, "value investing”, the term was coined later to help describe his ideas. For those investors willing to dedicate some extra time to value investing, money can be made by following the share price regularly, as well as looking in-depth at company balance sheets.
“Have the courage of your knowledge and experience. If you have formed a conclusion from the facts and if you know your judgement is sound, act on it – even though others may hesitate or differ.”
This “Great American Investor” was actually born in London, England.
Graham’s real name was Benjamin Grossbaum, meaning he was in fact Jewish. His family changed their last name for fear of anti-German sentiment following WWI.
At 25 Graham was earning more than $500,000 a year.
When Warren Buffett asked for a job with Graham’s firm, he was told no thanks. Buffett kept on asking and Graham eventually accepted Buffett’s resume. The two became lifelong friends.
Warren Buffett’s first son is named Howard Graham Buffet as homage to his teacher and mentor.
Why we love him
Benjamin Graham may have been an exceptional investor, but he was no stranger to adversity. He was born as Benjamin Grossbaum in London, England into a Jewish family, and his family migrated to the USA when he was one year old, eventually settling down in New York. When Graham was 9, his father passed away, and his mother was robbed of her savings during the Bank Panic of 1907. Despite all this, Graham entered Columbia University on a scholarship and graduated in 1914 at the top of his class. He was just 20 years old, and only a few weeks before his graduation, Columbia University offered him teaching positions in three different faculties: Greek and Latin philosophy, English, and mathematics. Declining the offer, Graham joined Wall Street and left us with the most formative investment philosophy in modern history.
“There is no sure and easy paths to riches in Wall Street or anywhere else.”