Graham & Dodd's Security Analysis: Moneyball for...Money27 Feb 2012
The last time I posted something about finance I got schooled by people who actually know stuff. So let me just say that I don’t claim to be an expert in this area, but I do have an interest in it and try to keep up the best I can.
One book I picked up a little while ago was Security Analysis by Benjamin Graham and David Dodd. This is the “bible of value investing” and so I mostly wanted to see what all the hubbub was about. In my mind, the hubbub is well-deserved. Given that it was originally written in 1934, the book has stood the test of time (the book has been updated a number of times since then). It’s quite readable and, I guess, still relevant to modern-day investing. In the 6th edition the out-of-date stuff has been relegated to an appendix. It also contains little essays (of varying quality) by modern-day value investing heros like Seth Klarman and Glenn Greenberg. It’s a heavy book though and I’m wishing I’d got it on the Kindle.
It occurred to me that with all the interest in data and analytics today, Security Analysis reads a lot like the Moneyball of investing. The two books make the same general point: find things that are underpriced/underappreciated and buy them when no one’s looking. Then profit!
One of the basic points made early on is that roughly speaking, you can’t judge a security by its cover. You need to look at the data. How novel! For example, at the time bonds were considered safe because they were bonds, while stocks (equity) were considered risky because they were stocks. There are technical reasons why this is true, but a careful look at the data might reveal that the bonds of one company are risky while the stock is safe, depending on the price at which they are trading. The question to ask for either type of security is what’s the chance of losing money? In order to answer that question you need to estimate the intrinsic value of the company. For that, you need data.
The functions of security analysis may be described under three headings: descriptive, selective, and critical. In its more obvious form, descriptive analysis consists of marshalling the important facts relating to the issue [security] and presenting them in a coherent, readily intelligible manner…. A more penetrating type of description seeks to reveal the strong and weak points in the position of an issue, compare its exhibit with that of others of similar character, and appraise the factors which are likely to influence its future performance. Analysis of this kind is applicable to almost every corporate issue, and it may be regarded as an adjunct not only to investment but also to intelligent speculation in that it provides an organized factual basis for the application of judgment.
Back in Graham & Dodd’s day it must have been quite a bit harder to get the data. Many financial reports that are routinely published today by public companies were not available back then. Today, we are awash in easily accessible financial data and, one might argue as a result of that, there are fewer opportunities to make money.