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Saturday, November 9, 2013

Security Analysis: Preface Part II

Security Analysis is arguably of one the best investment books transcending generations ever since it as first published in 1935. To date, it is still widely used by aspiring investors and professionals as a guide to help them in their journey to wealth. Written by Benjamin Graham and David Dodd, two of the people instrumental to launching the highly successfully career of the Oracle of Omaha. Warren Buffett only has high praise for the book and the authors, "They laid a roadmap for investing that I have now been following for 57 years. There's been no reason to look for another."  

We will break down the principles ideas, and insights shared from the book and see how it would help us make investing decisions and guide us through from being part of the herd to becoming an Intelligent Investor.

For part I of the preface analysis, click here.

We continue the discussion with more insights on investing.

Questions that need answered before Investing:
1. How stable is the enterprise, and what are its future prospects?
2. What are its earnings and cash flow?
3. What is the downside risk of owning it?
4. What is its liquidation value?
5. How capable and honest is its management?
6. What factors might cause the owner of this business to sell control at a bargain price?

Investing - Changing Approach
- Analysts today examine businesses but also business models; the bottom-line impact of changes in revenues, profit margins, product mix, and other variables is carefully studied by managements and financial analysts alike. Investors know that businesses do not exist in a vacuum; the actions of competitors, suppliers, and customers can greatly impact corporate profitability and must be considered.

- Many value investors today consider balance sheet analysis less important than was generally thought a few generations ago. With returns on capital much higher at present than in the past, most stocks trade far above book value; balance sheet analysis is less helpful in understanding upside potential or downside risk of stocks priced at such levels. The effects of sustained inflation over time have also wreaked havoc with the accuracy of assets accounted for using historic cost; this means that two companies owning identical assets could report very different book values.

- Greater attention has been paid recently to behavioral economics, a field recognizing that individuals do not always act rationally and have systematic cognitive biases that contribute to market inefficiencies and security mispricings.

Factors to Consider When to Sell:
1. Sell targets, once set, should be regularly adjusted to reflect all currently available information.
2. Individual investors must consider tax, commissions and other charges
3. Availability of better bargains
4. Value investors should completely exit a security by the time it reaches full value; owning overvalued securities is the realm of speculators

Quote of the week:
In a world in which the differences between investing and speculating are frequently blurred, the nonsense on financial cable channels only compounds the problem.

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