The Intelligent Investor by Benjamin Graham [Book Summary & PDF]

Through arguments, examples, and practical principles, The Intelligent Investor aids the readers to establish the proper mental and emotional attitudes toward their investment decisions. It will show you that a creditable result can be achieved by the lay investor, with a minimum of effort and capability.

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INTRODUCTION

Who is this book for?

The purpose of this book is to supply, in a form suitable for laymen, guidance in the adoption and execution of a successful investment policy. This book is not addressed to speculators (those who trade daily in the market) and it doesn’t aim to show you how to beat the market.

About the author

Benjamin Graham was an American economist and professional investor. Graham is considered the first proponent of value investing. Warren Buffett, who credits Graham as grounding him with a sound intellectual investment framework, described him as the second most influential person in his life after his own father.

In this summary

Through arguments, examples, and practical principles, The Intelligent Investor aids the readers to establish the proper mental and emotional attitudes toward their investment decisions. It will show you that a creditable result can be achieved by the lay investor, with a minimum of effort and capability. Ready to explore the book?

BOOK SUMMARY

1. WHO IS AN INTELLIGENT INVESTOR?

Let’s start with the most important question: why invest?

Because of inflation. It takes away our wealth (specifically, about 3% per annum) and it’s so easy to overlook.

Those with a fixed-dollar income will suffer when the cost of living advances (almost yearly), and the same applies to a fixed-amount-of-dollar principal.

Holders of sound investments, on the other hand, have the possibility that a loss of the dollar’s purchasing power may be offset by advances in their dividends and the prices of their investment portfolio value.

So, what exactly does Graham mean by an “intelligent” investor?

“It simply means being patient, disciplined, and eager to learn. You must also be able to harness your emotions and think for yourself.”

No matter how careful you are, the price of your investments will go down from time to time. You can’t eliminate that risk; you can only manage it and get your fears under control.

In other words, an investor’s chief problem and worst enemy is likely to be their own self. That’s why Graham constantly emphasises three things:

  1. How you can minimise the odds of suffering irreversible losses;
  2. How you can maximise the chances of achieving sustainable gains;
  3. How you can control the self-defeating behaviour that keeps most investors from reaching their full potential.

The first principle intelligent investors have to learn is that stocks become more risky, not less, as their prices rise, and less risky as their prices fall.

  • The intelligent investor dreads a bull market (when it goes up), since it makes stocks more costly to buy.
  • Conversely, you should welcome a bear market (when it goes down), since it puts stocks back on sale.

Graham’s “margin of safety” concept helps: by refusing to pay too much for an investment, you minimise the chances that your wealth will ever disappear or suddenly be destroyed.

It’s also important to notice: Graham uses the term “investor” in contradistinction to “speculator.” People who invest make money for themselves; people who speculate make money for their brokers.

“An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return. Operations not meeting these requirements are speculative.”

In the rest of this summary, we’ll explore two types of investors:

  1. The defensive (or passive) investor: They seek the avoidance of serious mistakes or losses, and aim at freedom from effort, annoyance, and the need for making frequent decisions.
  2. The enterprising (or active, or aggressive) investor: They are willing to devote time and care to the selection of securities that are both sound and more attractive than the average, expecting a better average return than the passive investor.

For both types, Graham emphasises the virtues of a simple portfolio policy:

The purchase of high-grade bonds, plus a diversified list of leading common stocks, which any investor can carry out with little or no expert assistance.

Let’s explore the two types of intelligent investors.

2. THE DEFENSIVE INVESTOR

“A defensive investor runs – and wins – the race by sitting still.”

Don’t buy more because the stock market has gone up; don’t sell because it has gone down. The heart of Graham’s approach is to replace guesswork with discipline.

A 50% bonds – 50% common stocks approach makes good sense here. Any deviation depends on your attitude, appetite for risk, and life circumstances:

If you can take higher risks, go for a minimum of 25% in bonds/cash.

If you’re risk-averse, aim at a maximum of 75% in bonds/cash.

Change these percentages only as your life circumstances change.

Rebalance every 6 months on easy-to-remember dates (e.g. New Year’s & the 4th of July).

Bonds

Bonds offer lower returns but secure & stabilise your portfolio. Thus, it is wiser to keep away from low-quality, high-yield bonds.

The major type of bonds that deserve investor consideration are U.S. Savings Bonds, Series E & Series H.

Bond funds offer cheap & easy diversification, along with the convenience of monthly income, which you can reinvest right back into the fund at current rates without paying a commission. For most investors, bond funds beat individual bonds hands down.

Major firms like Vanguard, Fidelity, Schwab, and T. Rowe Price offer a broad menu of bond funds at low cost.

Common Stocks

You cannot afford to be without an appreciable proportion of high-quality common stocks in your portfolio, because they offer a considerable degree of protection against inflation & higher average returns over the years.

Graham’s rules for the common stock component:

  1. Adequate but not excessive diversification: a minimum of 10 different issues & a maximum of 30.
  2. Confine yourself to the shares of important companies with a long record of profitable operations and in strong financial condition, with a long record of continuous dividend payments.
  3. Limit the price you’ll pay for an issue, set at 25 times its average earnings over the past 7 years, and not more than 20 times those of the last year. (Such a strategy eliminates the strongest and most popular companies and the entire category of “growth stocks”.)

A quick explanation for rule #3: the benefits in your portfolio can be lost if you pay a high price for your shares.

In contrast, large, relatively unpopular companies (and therefore obtainable at reasonable earnings multipliers) are a sound choice. Never invest in any company, however, without first studying its financial statements and estimating its business value.

Mutual funds are the ultimate way for a defensive investor to capture the upside of stock ownership without the downside of having to police your own portfolio:

  • At relatively low cost, you can buy a high degree of diversification and convenience
  • You’re letting a professional pick and watch the stocks for you
  • Every week, month, or calendar quarter, you buy more – whether the markets have gone up or down.

Index Funds

The ideal approach, however, is owning a portfolio of index funds.

Index funds own every stock or bond worth having. That way, you renounce the guessing game of where the market is going.

Practically, let’s say you can spare $500 a month. By owning just 3 index funds ($300 in one that holds the total U.S. stock market, $100 in one that holds foreign stocks, and $100 in one that holds U.S. bonds) you can ensure that you own almost every investment on the planet that’s worth owning!

Every month, like clockwork, you buy more. If the market has dropped, your preset amount goes further, buying you more shares than the month before. If the market has gone up, then your money buys you fewer shares.

With your portfolio on permanent autopilot, you prevent yourself from either flinging money at the market that goes up (and is actually more dangerous, because it’s more expensive to buy) or refusing to buy more after a market crash has made investments truly cheaper (but seemingly more “risky”).

Expecting an average overall return of 7% on the performance of an index fund portfolio, which will cost about 0.3% of the portfolio’s value, you should be expecting a total of 6.7% return per annum.

A low-cost index fund is the best tool ever created for low-maintenance stock investing – and any effort to improve on it takes more work (and incurs more risk and higher costs) than a truly defensive investor can justify.

Hold an index fund for 20 years or more, adding new money every month, and you are all but certain to outperforms the vast majority of professional and individual investors alike. Both Graham and Buffet praised index funds.

“That’s the power of disciplined buying – even in the face of the Great Depression and the worst bear market of all time.”

Some defensive investors enjoy the diversion and intellectual challenge of picking individual stocks. In that case:

  • Keep 90% of your stock money in an index fund, leaving 10% with which to try picking your own stocks.
  • Never allow your speculative thinking to spill over into your investing activities & never mingle the money in your speculative account with what’s in your investment accounts.

3. THE ENTERPRISING INVESTOR

The “aggressive” investor will start from the same base as the defensive investor, but will also branch out to other kinds of securities, if proven to be attractive as established by intelligent analysis.

Remember: if you bring just a little extra knowledge and cleverness upon your investment program, instead of getting a little better than normal results, you may find that you’ve actually done much worse.

Graham lists his ‘don’ts’ for aggressive investors:

  1. High-yield bonds
  2. Foreign bonds (may be appealing if you can withstand plenty of risk)
  3. Day trading (holding stocks for a few hours at a time): “The more you trade, the less you keep.”

Instead, an enterprising investor should focus on buying:

  1. In low markets and selling in high markets: “A great company is not a great investment if you pay too much for the stock.”
  2. Carefully chosen “growth stocks”: “Look into growth stocks not when they are at their most popular, but when something goes wrong.”
  3. Various bargain issues: “Temporary unpopularity creates lasting wealth by enabling you to buy a great company at a good price.”

Even for aggressive investors, however, it’s worth repeating: selecting individual stocks is unnecessary – if not inadvisable. A small percentage of investors can excel at picking their own stocks. Everyone else would be better off getting help, ideally through an index fund.

If you insist, Graham advised investors to practice first. Start off by spending a year tracking and picking stocks (but not with real money):

  • By test-driving your techniques before trying them with real money, you can make mistakes without incurring any actual losses, develop the discipline to avoid frequent trading, compare your approach against those of leading money managers, and learn what works for you.
  • If you didn’t enjoy the experiment or your picks were poor, no harm done. Get yourself an index fund and stop wasting your time on stock picking.
  • If you enjoyed the experiment and earned sufficiently good returns, gradually assemble a basket of stocks, but limit it to a maximum of 10% of your overall portfolio (keep the rest in an index fund). And remember: stop if it no longer interests you or your returns turn bad.

A last note on being an aggressive investor.

Ultimately, financial risk resides not in what kinds of investments you have, but in what kind of investor you are. Risk exists inside you.

“If you want to know what risk really is, go to the nearest bathroom and step up to the mirror. That’s risk, gazing back at you from the glass.”

Successful investing is about managing risk, not avoiding it.

CONCLUSION

Key takeaways

  • We invest because of inflation, which erodes our wealth.
  • An intelligent investor is patient, disciplined, and eager to learn, harnessing their emotions and managing risk & fear.
  • Stocks become more risky as their prices rise & less risky as they fall.
  • By refusing to pay too much for an investment, you minimise the chances that your wealth will be lost.
  • A 50% bonds – 50% common stocks approach makes good sense for a defensive investor.
  • Hold an index fund for 20 years or more, adding new money every month, and you’ll outperform the vast majority.

Further reading

I Will Teach You to be Rich helps you identify where your money is going and gets it working for you so that you can save for the things that will bring you true happiness and lead a rich life. The six-week program identifies how to create a system for optimising your bill payments, savings, and investments so that your money goes to all the right places with less than an hour of maintenance a month. Now, who wouldn't want to spend less time managing their bank accounts while at the same time knowing that your money is going to the places it needs to be. Automating your finances like this is incredibly rewarding and will save you heaps of time every month.

Unshakeable is another excellent book from Tony Robbins. In this book, Robbins examines the current financial conditions and takes you through facts, figures and historical patterns to help you understand the market and its fluctuations. Robbins has tips for anyone looking to invest money and invest in your own future. Common misconceptions and mistakes are discussed so you know what not to do. Using his hand-selected financial ‘masters' Robbins supplements the information with plenty of real-life examples. The last section of the book is perhaps the most important – it's about how money doesn't bring happiness and fulfillment. Robbins has tips on how to master your mind and find inner peace.

Guidelines is my eBook that summarises the main lessons from 33 of the best-selling self-help books in one place. It is the ultimate book summary; Available as a 80-page ebook and 115-minute audio book. Guidelines lists 31 rules (or guidelines) that you should follow to improve your productivity, become a better leader, do better in business, improve your health, succeed in life and become a happier person.

Guidelines is my eBook that summarises the main lessons from 33 of the best-selling self-help books in one place. It is the ultimate book summary; Available as a 80-page ebook and 115-minute audio book. Guidelines lists 31 rules (or guidelines) that you should follow to improve your productivity, become a better leader, do better in business, improve your health, succeed in life and become a happier person.

Action steps

  1. Identify your appetite and endurance to risk.
  2. Consistently set aside a monthly lump sum to invest in an index fund.
  3. If an aggressive investor, experiment with 10% of your investment money on picking your own stocks.
  4. Download the complete book on Amazon.