World's Greatest Investors

What would Graham have bought in India ? Probably nothing except a few stocks where the market value of holdings exceeds the market cap some thing like a Tata Investment.

Benjamin Graham was the only investing legend who ignored the subjective aspects of equity analysis. Graham was never interested in meeting managements and knowing what they were capable of doing or not doing. He never looked at a company's product pipeline nor concentrated on anything else. All he saw and studies were hard core numbers - the Balance Sheet. He wanted to buy cheap, discarded and under valued assets. He was fascinated with numbers and operated on the premise that  financial numbers capture every thing that an investor ought to know. He was brutally shaven off in the 1929 crash.Later on he developed a theory that the prospects of a company cannot be determined. He therefore advised investors to look back wards rather then forward. he He encouraged investors to look at the operating history for the past 7 years . It was certain that Graham was not looking at any of the companies in the new sector. In 1934 he published a book titled “Security Analysis” which remains an investment classic till date. In the early 1950's Warren Buffet was amongst his team of research analysts trying to decipher the investing skills of the master.

Predominantly a man who saw numbers and ignored perceptions Graham had a very unique personal life His second wife was his secretary and the third an employee. In fact he spent the last few years of his life with a woman who was earlier involved with one of his sons.

One of Graham's basic investing rules was to compute real earnings of a company. His definition of real earnings was dividend paid adjusted with increase (decrease) in the net asset per share – which usually appears as the change in earned surplus including voluntary reserves.

Graham stressed the diversification mantra. His basic premise was to avoid having concentrated portfolios . Since he ignored the subjective aspects of investment he wanted to buy companies almost for free. While the idea looks good in theory it is actually hard to find such companies in actual practice though. Graham backed his theory by the “Cigar butt” analogy. He stated that cigar buts that are thrown on the ground are always good for a few puffs. Similarly investors should look for discarded companies possessing a good turnaround prospects.

Graham professed that investors should buy companies when the current situation is unfavorable, the near term prospects poor and the low price fully reflects the current pessimism . Investors he added focus on the long term picture and ignore the daily quotations that “Mr. Market” provides. He suggested treating the market as an insane partner who provides daily quotes depending on which side of the bed he got up from. Clearly it should suit the investor to buy shares when “Mr. Market” displays more insanity then otherwise .

Key learning:

• Buy Stocks trading at two- thirds of their Net current assets and sell them as they approach their net current assets. Graham does not account for the fixed assets and recommends deduction of all liabilities while computing net current assets.


• The Earnings yield (inverse of the PE ratio) should be twice of that of a “AAA” rated bond. In other words if the interest rate on a “AAA” bond is 5% the earnings yield should be at least 10% or the PE ratio of the stock should be 1/10% = 10.


• The Company’s debt to equity ratio should not be more then 1. For computation debt should include preferred stock


• The dividend yield on a stock should not be less then two third of a “AAA” bond yield.

What to look for before Selling?

• Sell after the stock moves up 50%. Sell after two years if it does not move up by 50%.


• Sell if the company stops declaring dividends.


• Sell if the earnings decline or the stock moves up by 50% over the new target-buying price.

Clearly in today's environement of overvalued asset classes it will be very difficult to find a stock on the Benjamin Graham way of Investing. Perhaps the 1929 fall shook him so much that he turned risk averse in the strict sense.

References :

• Security Analysis: The Classic 1940 Edition by Benjamin Graham, David Dodd


• The Intelligent Investor: The Definitive Book On Value Investing, Revised Edition by Benjamin Graham, Jason Zweig.

Warren Buffett is by far the most successful investor of all times. He buys businesses that are simple and easy to understand.  Once a business has been bought the time to sell it is “almost never”. Warren Buffet tries to look at stocks as pieces of part ownership of businesses. Buffet rarely follows the minute-to-minute fluctuation in stock prices and prefers to stay in the small town of Nebraska. Buffet’s holding period often extends into decades and this particular quote makes for a very interesting reading. In a a recent letter to the shreholders of his company, Buffet wrote:

“We bought some Wells Fargo shares last year. Otherwise, among our six largest holdings, we last changed our position in Coca-Cola in 1994, American Express in 1998, Gillette in 1989, Washington Post in 1973, and Moody’s in 2000. Brokers don’t love us”

Buffet argues that the key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company and above all the durability of that advantage.

Key Strategies

• Be focused and buy concentrated portfolios – they perform better. Buying two stocks in every sector will help you create a zoo not a portfolio. A person who diversifies is the one who is unsure of his investments. Buffet once put about half of his wealth in a single stock “American Express” when he believed that the company was into a one off problem.


• Buy what you see and understand. Buffet never bought a single technology company in spite of being a very good friend of Bill Gates.


• Buy businesses not stocks. Buffet advocates investors to be and think like passive a owner of that business


• Understand the Margin of Safety and the Circle of competence. These are Buffet's favourite words. Do not be a jack-of-all-trades buy stocks of businesses that you understand.


• Employ the magic of compounding


• Investing is a full time job (24x7x52). If you can go to a dentist for your teeth, cobbler for your shoes, barber for your hair then why can’t you go for an expert for your wealth.

Piquant styles:

Separated bottle corks from the garbage so that he could know which company sold more cold drinks

• It took him about 2 years to figure out that his room was painted in his absence as he just looked at books inside the room.

• Although he owns a private jet he preferred to stay away from Wall Street in a small town and declined to invest in a company whose CEO took out a brand mew letter pad to explain the company’s plans

• He once invested in a company located on the seashore which had only three sides of its building painted. The side facing the sea was left without paint.

• When his wife spent US $ 15,000 on home furnishing his first comments to a friend were” You know how much is that worth if you compound it for 20 years.

Key learning



Business



   Simple understandable – mostly buy what you see category

• Consistent operating history


• Favorable long-term prospects


• Strong Franchises with pricing power. Buffet wanted to hold on to companies that were surrounded by a moat so that your competitors could not squeeze you on prices and profits.

Amongst Buffet’s favorite businesses were Banks. Media and Consumer related stocks. Buffet liked T.V stations as he thought that the fixed capital requirements were low, companies operated with little inventories and negative working capital and had a very high profit margin on sales.







Management.

• Trust worthy managements deserve premium. They should be clear and forthcoming


• Avoid companies with managers following lavish and extravagant styles

Financials

• Look for High Return on Equity (RoE)


• Look for high and stable profit margins

Markets

• Use conservative earning estimates and the risk free rate of return as the discount rate


• Valuable companies can be bought at attractive prices when investors turn away.

Companies to avoid:

• Buffet avoided investing into companies that required a high degree of research. He did not buy technology and pharmaceutical companies.


• Buffet was apprehensive about retailing companies his concern – A company could report good numbers year after year and then suddenly go bankrupt. Buffet avoided investments into aircraft carriers as well.


• Companies that had a very long inventory cycle like farm (agricultural) businesses should also be avoided.


• Buffet advised investors not to put money into Cash guzzling businesses but instead look for businesses that generated free cash flows year after year.


• Commodities were an absolute no - no. Buffet stated that agricultural commodities in particular are dependent upon the mercy of weather, which adds another twist to computation of the probability of an event.

References:

• Warren Buffet – The making of an American Capitalist – Roger Lowenstien


• The Warren Buffet way – Robert.G. Hagstorm.


• The Essays of Warren Buffett : Lessons for Corporate America by Warren E. Buffet

What would have Lynch bought in India? ITC, Maruti, Hero honda, Bharti Airtel, Pantaloon Retail, TV-18 and the likes.



Most Fund Managers are known for their investing styles rather then the investments that they make. Peter Lynch is one of them. As the fund Manager for the Magellan fund Lynch grew to fame for his "Buy what you see "school of thought". An initial Investment of US $ 10,000 would have grown over to US $ 2.50,000 in the 13 years that Lynch managed the fund. His annual rate of compounded growth averaged 29.2%. The greatness of Lynch lied in his simplicity. He was one of the few people from the Fund Manager fraternity who taught and practiced the KISS (Keep it Simple Stupid) principle.



Most often people invest in sectors and industries that they know little of. For instance a Doctor could be investing into a technology company while a software engineer could be looking at pharmaceutical stocks. Lynch often remarked “Your investor’s edge is not something you get from Wall Street experts. It’s something you already have. You can outperform the experts if you use your edge by investing in companies or industries you already understand”



Although he held more then 1400 stocks in his Magellan fund Lynch advised people to hold stocks of as many companies as they felt comfortable with. For instance he advised investors to hold fewer well researched stocks rather then own a complete index replica as such.



His advise on the number of stocks investors should hold was also simple. “Owning stocks is like having children – don’t get involved with more than you can handle. The part- time stock picker probably has time to follow 8-12 companies, and to buy and sell shares as conditions warrant. There don’t have to be more than 5 companies in the portfolio at any one time”.





Key Learning:

• Small Market capitalized companies - Lynch loved small emerging businesses with strong balance sheets,. His extraordinary returns in La Quinta Inns came at a time when the company was in the initial years of development He argued "Big companies don't have big stock moves you’ll get your biggest moves in smaller companies."


• Fast growers - Among Lynch's favorites are companies whose sales and earnings are expanding 20% to 30% a year. He cautions investors from looking at companies that grow more then 30% every year. Companies growing at 50% to 100% are bound to falter and crack. It is therefore imperative to view very high growth ideas with a sense of suspicion.


• At the same time, he advised investors to look for slower-growth businesses selling at a truly great price.


• Dull names, dull products, dead industry - Lynch loved good managements in simple mundane, colorless businesses. His arguments were that nobody creates excess capacity in dull boring industries and when you can find a winner there it makes sense to jump in.


• Lynch loved boring businesses with boring company namesL. Peter Lynch writes about both in One Up on Wall Street. No self-respecting Wall Street broker could recommend absurdly named unknown companies to his key clients. And that left the greatest money managers an opportunity to scoop up a truly solid business at a deep discount.


• Spin Offs - Lynch's dream stock at Fidelity Magellan was one that hadn't yet attracted any attention from Wall Street. One-way Lynch recommends finding these companies is to buy spin-offs. For instance, after being spun off, Toys "R" Us went on in relative obscurity to rise more than 55 times in value. Lynch also made a fortune buying into the funeral and cemetery business Service Corp, which had no analyst coverage.


• Insider buying and share buybacks: Lynch loves companies where the senior managements bought stocks of their own companies. A combination of insider buying and aggressive share buybacks really piqued his interest. "Buying back shares," Lynch writes, "is the simplest, best way a company can reward its investors."

Lynch ignores conscious asset allocation between various asset classes. He says that market players may have 50% of their portfolio in cash at market bottoms. When the market decides to move up they could miss most of the move.



Lynch was the proponent of the PEG theory. As long as the PE of a company was lower then the growth rate that it expected to generate Lynch would have advocated a buy on the stock.



While making investments Lynch advised people not be try and catch bottoms. If you liked a company he argued take a small position and add it up as you see further visibility in earnings growth. Lynch stated that “time is on your side when you own shares of superior companies. You can afford to be patient – even if you missed Wal-Mart in the first five years, it was a great stock to own in the next five years also”. In this connection he presented a very interesting statistic.