Warren Buffet writes in the introduction to the book “The Intelligent Investor”: “If you follow the ethical and business principles Graham promotes, and if you pay specific attention to the priceless advice in Chapters 8 and 20, you will not get a poor outcome from your investments.”
The investor and market fluctuations are the topic of chapter 8, and “margin of safety” is the key concept in chapter 20. The dangers of following the crowd are highlighted in Chapter 8 and the prevention of loss or discomfort is emphasised in Chapter 20. As the secret in chapter 8 is employed frequently by the majority of successful fund managers, it will be the main focus of this essay. Remembering that Warren Buffet cites Benjamin Graham as his mentor, my goal is to try to extract some of the advice that Buffet employs from chapter 8.
Chapter 8: Market and Investor Fluctuations
Market sentiment fluctuates between “unjustified pessimism” and “unsustainable optimism.” This indicates that the stocks become mispriced in both up and down movements. Most investors make the error of avoiding equities as they decline (as they become less expensive) and purchasing them as they rise (become more expensive). This is the herd mentality, in which a wave of movement in one direction promotes further growth in that direction among the group. When animals like buffaloes engage in this frantic gallop, a stampede occurs as they rush towards a precipice, stepping on one another and causing severe casualties.
According to Graham, the market may either be your master when it determines how you should go with your investments or your servant when you only utilise it as a price mechanism and do not take any signals from it. Graham responded, “The main cause of failure is that they pay too much attention to what the stock market is doing today,” when asked what prevents the majority of individual investors from succeeding.
Dollar cost averaging is a strategy where you continually buy at predetermined or arbitrary intervals and take advantage of price variations to average your buying price. It works best when you hold your investment for lengthy periods of time—at least 25 or 30 years. For instance, if you constantly purchased the following stock:
August 10 January 10 February 15 March 20 April 30 May 26 June 24
If you had purchased a parcel of shares worth $1000 each month, your average price would be $18.75. However, an investor who opted to buy the stock in April with a lump sum of $8,000 during a period of market excitement would lose $5,333 in August as opposed to the investor who invested over the course of the year at a dollar-average loss of $2,965.
The average investor, according to Graham, “would be better off if his stocks had no market quote at all, for he would then be spared the emotional agony given him by other people’s errors of judgement.” A person who phones the estate agent to check the price of his house every ten minutes is equivalent to someone who checks the price of his stocks at intervals of ten minutes. That sounds incredibly improbable, don’t you think? According to studies, investors who regularly receive stock price performance updates earn half as much as those who do not.
Buffet appears to belong to the latter category. He doesn’t have a computer, a calculator, or even a stock ticker (Quotron) on his desk because he lives distant from both exchanges. Mr. Market is in Chapter 8 of The Intelligent Investor, and it’s perhaps the most significant thing I’ve ever read in my life, according to Buffet. (Extracted from Warren Buffet – The World’s Greatest Money Maker, a BBC documentary.) The investors in the examples below may help to demonstrate why he made such an accusatory statement.
Here are some examples of how prominent investors in the modern era have applied this information.
Sir John Templeton is renowned for purchasing 100 shares of each NYSE-listed business when they were selling for less than $1 each, and then profiting handsomely when US industry recovered after WWII. Templeton has a reputation for “avoiding the crowd” and for making money at periods of high expectations and values.
Peter Lynch would target businesses that were undervalued because they were still unknown to Wall Street or he would purchase turnarounds as soon as they reached their lowest point. This was consistent with “prospecting in bad news” and taking advantage of the market. When the P/E ratio rose too high, Peter Lynch tended to sell. For more details, please visit Warren Buffet Quote