The Intelligent Investor_ The Definitive Book on Value Investing - Benjamin Graham [259]
6 Posting no. 3910, December 15, 1999, at the Exodus Communications message board on the Raging Bull website (http://ragingbull.lycos.com/ mboard/boards.cgi?board=EXDS&read=3910).
7 See Graham’s speech, “The New Speculation in Common Stocks,” in the Appendix, p. 563.
* Graham describes his recommended investment policies in Chapters 4 through 7.
† As we have discussed in the commentaries on Chapters 5 and 9, today’s defensive investor can achieve this goal simply by buying a low-cost index fund, ideally one that tracks the return of the total U.S. stock market.
* In early 2003, the yield on 10-year, AA-rated corporate bonds was around 4.6%, suggesting—by Graham’s formula—that a stock portfolio should have an earnings-to-price ratio at least that high. Taking the inverse of that number (by dividing 4.6 into 100), we can derive a “suggested maximum” P/E ratio of 21.7. At the beginning of this paragraph Graham recommends that the “average” stock be priced about 20% below the “maximum” ratio. That suggests that—in general—Graham would consider stocks selling at no more than 17 times their three-year average earnings to be potentially attractive given today’s interest rates and market conditions. As of December 31, 2002, more than 200—or better than 40%—of the stocks in the S & P 500-stock index had three-year average P/E ratios of 17.0 or lower. Updated AA bond yields can be found at www.bondtalk.com.
* An easy-to-use online stock screener that can sort the stocks in the S & P 500 by most of Graham’s criteria is available at: www.quicken.com/ investments/stocks/search/full.
† When Graham wrote, only one major mutual fund specializing in utility stocks—Franklin Utilities—was widely available. Today there are more than 30. Graham could not have anticipated the financial havoc wrought by canceled and decommissioned nuclear energy plants; nor did he foresee the consequences of bungled regulation in California. Utility stocks are vastly more volatile than they were in Graham’s day, and most investors should own them only through a well-diversified, low-cost fund like the Dow Jones U.S. Utilities Sector Index Fund (ticker symbol: IDU) or Utilities Select Sector SPDR (XLU). For more information, see: www.ishares.com and www. spdrindex.com/spdr/. (Be sure your broker will not charge commissions to reinvest your dividends.)
* In a remarkable confirmation of Graham’s point, the dull-sounding Standard & Poor’s Utility Index outperformed the vaunted NASDAQ Composite Index for the 30 years ending December 31, 2002.
* Today the financial-services industry is made up of even more components, including commercial banks; savings & loan and mortgage-financing companies; consumer-finance firms like credit-card issuers; money managers and trust companies; investment banks and brokerages; insurance companies; and firms engaged in developing or owning real estate, including real-estate investment trusts. Although the sector is much more diversified today, Graham’s caveats about financial soundness apply more than ever.
* Only a few major rail stocks now remain, including Burlington Northern, CSX, Norfolk Southern, and Union Pacific. The advice in this section is at least as relevant to airline stocks today—with their massive current losses and a half-century of almost incessantly poor results—as it was to railroads in Graham’s day.
* Graham is summarizing the “efficient markets hypothesis,” or EMH, an academic theory claiming that the price of each stock incorporates all publicly available information about the company. With millions of investors scouring the market every day, it is unlikely that severe mispricings can persist for long. An old joke has two finance professors walking along the sidewalk; when one spots a $20 bill and bends over to pick it up, the other grabs his arm and says, “Don’t bother. If it was really a $20 bill, someone would have taken it already.