The Intelligent Investor ( 2nd part )

 The Intelligent Investor Benjamin 

A Century of Stock-Market History In the 1990s, a group of stock market forecasters said that since 1802, stocks had an average of 7% returns every year. It means that investors in the 1990s can rely on at least 7% annual returns. The forecasters based, their future predictions with full trust on the past. However, for Graham, this is just beyond logic and reason. The author is always equipped with practicality and common sense. He argued that the past behavior of the stock market can never be the same in the future. Indeed, the forecasters were proven terribly wrong. Kevin Landis, a manager of firsthand mutual funds, did an interview for CNN in 1999. He was asked if stocks on wireless telecommunication are over overvalued. Landis replied that it's not. The industry is growing and it will continue to do so in the following years.

Robert Froelich, a strategist at Kemper funds, appeared on the Wall Street Journal in 2000. He implied, that people should not be scared to invest on companies with high stock prices. According to Froelich, these companies have the right vision and, the right people. It should be worth it to invest highly on them. Jeffrey Applegate, a strategist at Lehman Brothers, was featured on Business Week in 2000. He said that just because the stock market prices are higher doesn't mean that investing is riskier. But the truth is that it is indeed, riskier. Investing in stocks is always risky whether in the past, in the present or in the future. These 3 forecasters who believed that there is guaranteed high returns in the late 1990s were ultimately crushed.

Landis lost 67% of his stocks on Nokia and 99% in Winstar Communications. Froelich lost 70% on both Cisco and Motorola. In total, Cisco investors lost $400 billion. When Applegate, made his assumption in 2000, Dow Jones Index was around 11,000 while NASDAQ was at 4,400. After two years though, the situation changed completely. Dow Jones went down to 8,000 and NASDAQ fell to 1,300. The lesson is that the higher you assume on returns, the harder you will fall. The intelligent investor will, not invest on high priced stocks even if forecasters are optimistic. There is limit to the profit that companies can gain. And so there must be a limit to the amount that investors are willing to put in.

High priced stocks can be compared to Michael Jordan who is the all-time basketball superstar. When Chicago Bulls drafted him, the team acquired, so many supporters and admirers. Chicago Bulls paid Michael Jordan $34 million each year that he played with the team. No matter how great Michael Jordan is, it would not have been sensible, for Bulls to pay him $340 million every year or $3.4 billion or even $34 billion. That is just ridiculous. Likewise, investors should not be so carefree on putting in money. Remember that the past cannot predict the future of the stock market and there is limit to the returns that you can get.

Graham suggests a simple rule to any investor. “Buy low and sell high." the problem is that majority of people do the opposite. They end up buying high and selling low. The next time you hear an “expert” give a very optimistic forecast remember the rule of opposites. The more optimistic an investor is for the long-term, the more likely he will be proven wrong in the short-term.

General  portfolio policy

There are two approaches in becoming an intelligent investor. The first one is the active approach. If you are like an avid competitive sports fan then this would work for you. Active investing means to be always on the watch, always studying and selecting your set of stocks and bonds. The second one is the passive, approach. If you are more laid back, if you don't want to feel much pressure and if you want to keep things simple, this is for you. Passive investing is to have permanent investments which you don't need to check from time to time. Both active and passive approach is intelligent. The key is to find the right for you. Are you always craving excitement or are you more attracted to calmness? After this step, you should decide how much you are willing to put in bonds and how much you are willing to put in stocks. Generally, bonds have low risk but low returns. Stocks have higher risk and higher returns.

Some experts say that people should decide based on age. They say that younger people can handle more risks and older people should engage in lower risks. For example, a 28 year old professional should put 72% of his money in stocks. An 81 year old, woman should only put 19%. Graham dumps this idea though. It doesn't matter what age you are. What matters is how intelligent you are as an investor. Graham advises that any investor should keep at least 25% in bonds. That will protect you from the unpredictable stock market. Let's take a look at two scenarios. Mrs. Smith is an 85 year old widow. She has monthly pension. She has several grandchildren to whom she wants to give inheritance. Mrs. Smith has $3 million in her bank.

Meanwhile, there is John who is a 25 year old bank employee. He is looking forward to starting his own family. John saves money for the wedding and down payment for a dream house. Of the two of them, who should invest more on stocks? Who can afford to take more risks? According to the age assumption, it should be the older woman, Mrs. Smith to be less risky. But she has more financial security than John. Graham suggests that all investors, young and old, should prepare for the unexpected. The stock market is unpredictable and so is life. Are you single? Do you expect to have children anytime soon? Do you have stable income?

'If you're financial situation is more like Mrs. Smith's, then you can afford 75% stocks and 25% bonds or cash. 'If you're more like John, then you should maintain your 75% in bonds or cash. An intelligent investor will not buy more stocks just because stock prices went up. An intelligent investor 'has patience and discipline. Look instead on your needs rather than the stock prices. Are your investments adequate to your needs? Graham advises to assess your portfolio every 6 months. This will prevent you from taking any impulsive decisions and losing money. 

The Defensive Investor and Common Stocks

The defensive investor is someone who knows how risky stock markets can be and knows how he can defend himself against it. Bonds are often low-yielding so it's logical to own stocks at a price and amount that works for you. It is practical to keep a “permanent autopilot portfolio" which is a set of stocks that you always keep. Make sure that you have studied about the companies before picking them. Once you have that permanent portfolio, it will prevent you from always shopping for stocks. The number one rule of being a defensive investor and an intelligent investor is to do your homework. Be familiar with the company you're investing in and check its financial, statements. Peter Lynch who owned Fidelity Magellan advises people, to use common knowledge. The crowd piling for a new restaurant, toothpaste or brand of jeans indicates that it's good business.

Finding that promising company though is just half of the job. Next thing you should do is to study its financial statements. The actress Barbra Streisand is also popular for day trading. She represents how majority of investors think. In 1999, she said that she drinks Starbucks everyday so she invests on Starbucks stock. Buying stocks from a business that's familiar to you isn't enough. Another example is the many people who invested on Amazon.com just because they love the website or the people who bought e-Trade stocks because it's their personal online broker. Some people invest on a mutual fund company because its office building is around the town. Don't make the mistake of exaggerating what you already know. 'If you are over-familiar with the company, it may be that you do not see its flaws. Don't be a lazy investor.

Now, if you are a defensive investor who always does homework, this is a good time to buy stocks. You can take advantage of these tips which would make investing easier and cheaper for you. First is to check online broker websites. Some examples are sharebuilder.com and foliofn.com These broker website only charge $4 per transaction. There's no minimum account balance required to invest. You can arrange it so that you can put in money from your online bank account or reinvest your dividends. There are also companies who offer their stocks on their website. The advantage is that you would not need, a broker. Another useful tip is to invest in mutual funds. They are generally low-cost and low risk. Mutual, funds require little maintenance or monitoring. They are less likely to cause you any surprises or problems. As opposed to high-priced stocks, mutual funds are the safer and smarter choice.