For the last few days, I was reading the book Intelligent investor by Benjamin Graham.Although the book is full of good information from the massive experience of the writer but the main information that I came across while reading the portion of the book ,is being presented here in my current post.
Benjamin Graham says to keep it simple and hold 50 : 50 ratio in high-grade bonds and stocks.When the stock market advances and the stock component rises to 55℅, it is time to sell one-eleventh of the stocks and put that money in bonds to rebalance the portfolio.Similarly, when the stock market falls and the stock component remains 45%, it is time to sell one-eleventh of the bonds and buy stocks with that money.This helps to keep a balance in the portfolio.This should be done mostly in 6 months interval.This method is highly mechanical and useful for a defensive investor who does not want to lose money in financial markets.I am providing the exact writing of Benjamin Graham for your convenience.
The first one says to diversify the portfolio but at the same time asks not to over diversify the portfolio.While diversification is good but over-diversification leads to nonrealization of profits on the stocks that perform very well.He is asking us to diversify the portfolio with 10stocks and with a maximum of 30stocks.
The second point says us to invest in those companies which are large and are financed conservatively that means the companies should not have taken excessive loans to finance growth.The company should have good market share.
The third point that should be taken care of is if the company has paid the dividend for the last 10years.Although the writer is suggesting us to find companies which have paid a dividend for the last 20years but in the present scenario, a dividend history of last 10 years will suffice the job.
The last point the writer is asking to take care of is how much we are paying for the stock.If we buy an overpriced stock then there is a maximum chance that we will lose money.But if we pay less for a stock chances are that we will profit.The writer is asking us to pay a maximum of 25 times of average earnings per share of last 7 years and not more than 20 times of last 12 months earnings per share.This type of screening essentially eliminate all types of growth stocks which are popular in the market.
I AM PROVIDING THE EXCERPT FROM THE BOOK BELOW:
At last, the writer makes a point why we should avoid the growth stock.While immense profits can be made if we buy growth stocks at the right price, but mostly we loose money in these types of stocks.This is because the growth stocks are mostly overpriced because of the speculative nature of the people.During market fall the growth stocks loose most of the capital as they are the one who is very overpriced.So in a sliding economy, they are very risky and could fall to immense levels.This fall could be accompanied with the fall of the earnings per share also making the situation far worse.