Ben Graham’s arrival on Wall Street in that summer of 1914 was not much more than a chance encounter, a light reconnaissance of the world of money. There were no telltales that Graham would live in that world for the next four decades, synthesize a dominant theory of value investing, and in the process create a class of thousands of super investors like himself. Among the chief disciples is one-time student and employee Warren Buffett, who graces Graham with the ultimate accolade. Graham, he says, had more influence on him than any man except his father.
Buffett underscored the link through his own son’s middle name – Howard Graham Buffett. Among other expressions of filial gratitude, Buffett has unabashedly told fellow Berkshire Hathaway Inc. (NYSE:BRK.A) (NYSE:BRK.B) shareholders, “I benefited enormously from the intellectual generosity of Ben Graham, the greatest teacher in the history of finance.”
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Buffett doesn’t burn incense at Graham’s shrine simply because he was a nice guy. Ben Graham has been dead for more than three decades now, but there are still uncanny touches of his style in the discipline that has made Buffett and dozens of other disciples very rich men.
What did Graham so lastingly teach this school of brilliant portfolio managers? The simple hardheaded principle that is at the heart of value investing: the need to cut through market prices to reality. When you buy a stock, you are not buying a piece of paper; you’re buying part of a business. There is often a huge spread between the “intrinsic value” of the business and the price that a frequently manic stock market is putting on the paper. Buy a stock significantly above intrinsic value and you court a loss. Buy below intrinsic value and you have a good chance of making money over the long haul, with little risk of taking a permanent hit on your capital. The basic bet is that market value and intrinsic value will ultimately converge.
In one of a number of lead articles he wrote for Forbes, Ben Graham thought of his strategy as “buying dollar bills for 50¢.” It was a strategy that enabled him to survive the bad years of the 1929 crash while others were sinking and it brought him returns of 20 percent or more over many good years.
The touchstone is intrinsic value. How to establish it? Ben Graham, an irrepressible polymath who loved puns, dancing at Fred Astaire studios (mainly for the pulchritude of the female instructors), and Latin verse, worked at refining his formula almost literally to his dying day in 1976 at age 82. First he concentrated on undervalued assets. Then he began working earnings and dividends into his risk/reward equations. His formula in its final form, a distillation to ten critical elements, took shape as Graham’s “Last Will & Testament” in the Forbes of August 1, 1977.
The refinements evolved out of his own experience in Wall Street, three decades of teaching at the Columbia Graduate School of Business, and the writing of his multiedition best-sellers, Security Analysis and The Intelligent Investor.
Ben Graham had little time for the hype and hyperbole of Wall Street. Talking of growth stock fads and high-tech cults shortly before he died, Graham noted that the Bourbon Kings were said “to forget nothing and learn nothing.” “Wall Street people,” he added, “typically learn nothing and forget everything.” It’s fashionable in these high-flying days to dismiss Graham as irrelevant. If Graham is irrelevant, so is Warren Buffett.
The education of Ben Graham, Wall Streeter, began that summer in 1914. Graham was 20, a star young graduate and classics scholar who sometimes thought of himself as the wandering Ulysses. He had already turned down flattering but low-paying teaching offers from three different departments at Columbia University. He had missed out on a job touring Europe as an assistant to the high-powered author Norman Angell and had even taken a fling at writing advertising jingles (“There Was a Young Woman from Winona Who Never Had Heard of Carbona”).