Tag Archives: investing guidelines

Book Review – The Little Book that Beats the Market

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The Little Book That Beats the Market, by Joel Greenblatt is a really short book for investors searching for a magic formula for stock exchange investing. I like the idea behind the book, but the book itself is well below my standards.

First of all, anyone who invests in the stock market should do his own due diligence and not rely on a simple magic formula. There are no free lunches, and if you want to earn money in the stock market, you have to work for it, just like earning money in any other human endeavour. Secondly, the book just repeatedly explains how the magic formula is better than the market, how it has been better than the market almost always, why it is great, and again and again. After three chapters this became a bit annoying. Third, if you really want to convince me, show me the real data, not just saying that we did such and such research and so on, like in Graham’s The Intelligent Investor and Security Analysis: The Classic 1934 Edition, where real world data is shown all of the time.

Another point, which my father-in-law showed to me, is that the magic formula looks until operating earning and there it stops. While this is good for comparing between stocks, sometimes the really good companies make a LOT of money by managing their taxes in a smart way (google for example, which is said to have saved more that 3 billion dollars on taxes in the last 3 years, paying a VERY low 2.4%! on overseas taxes). But this was expected because the book does very shallow analysis, and doing tax analysis is of course out of the question.

On the other side, for people who have never heard of the stock exchange or how to invent in companies, and how a company is valued, how it earns money, what is debt, in short, people who have never though on the difference between a good business and a bad business, this is a good book. The principles are explained in clear terms that (as the author says) can be understood by a 9 year old child.

On the whole, the book can be read (and this can be done in a very short time), but beware of the free lunch syndrome.

Support my work by purchasing this book from amazon.

My First Investing Post

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One of the things that I do in my spare time (competing with caring for 3 children, loving my wife, programming, reading and knitting) is stock analysis for investment purposes. With all of the other competing hobbies (specifically the kids), I don’t have much time to do this, but when I get to analyze a company it is a very fulfilling work.

So, how did I learn to do this? well, first of all I started “investing” about two years ago. I say “investing” since what I was really doing was betting on the stock exchange. And bad bets I did – I lost about 10% of my money, which is not much but as you may have read in an earlier post of mine, my reactions to losses are not pretty good. At about the same time my father-in-law started sending me the great newsletters of John Mauldin (which is free, you can subscribe to them here and here), and I began to understand that I had to learn more. And since reading is also one of my hobbies, this was a win-win situation. I read two Mauldin books (“Just One Thing” and”Bull’s Eye Investing“ which you can obviously buy at amazon), and from there continued reading “The Snowball” (A biography of Warren Buffett) which directed me to the great and basic book for all value investors, “The Intelligent Investor” by Benjamin Graham. My conversion was finished.

Since this post is getting a bit long, let’s just point out the basics filter done by Graham for a defensive investor:

  1. First of all learn how to invest. Start by investing most of your money on a simple investment (like an index fund which are largely available today) and leaving a small amount to stock picking. When you think that you have learned the trade, increase the amount of money you invest using stock pickings.
  2. Invest in enterprises that have:
    1. Adequate size: in the days when Graham revised his book he proposed at least $100 million annual sales, today after forty and using the inflation calculator provided by the US Department of labor, this would amount to $500 million more or less.
    2. Strong financial condition: the company’ current assets should be at least twice the current liabilities, and long term debt should not exceed current assets. This leaves you will enterprises that owe relatively little compared to what the own.
    3. Earnings stability: some earnings in the past ten years.
    4. Dividend record: uninterrupted dividend payments in the past 20 years.
    5. Earning growth: at least 33% earning growth in the last 10 years. This is pretty moderate and may be raised by a more defensive investor.
    6. Moderate P/E (price/earnings): a P/E of 15 should be the highest you should go (The average US equity P/E ratio between 1900 and 2005 was 14, which means that graham wants you to buy companies with below average P/E). As Mauldin says a lot, the stock market is a voting machine in the short run, but in the long run is a weighting machine, and the P/E always returns in the long run to it’s average.
    7. Moderate P/B (price/book): current price should not be more than 1.5 times the book value of the company. When this happens a company has real assets and it’s book don’t contain outrageous amounts of intangible assets that being intangible you can never really know their value.
  3. Do your homework! Learn about the company you are investing in, in what market it works, how are it’s competitors. When you buy a stock you don’t buy a piece of paper, you become part owner of the company. Behave as such.

I think this is enough for today. My next post on the subject will include the guidelines for the more enterprising investor (who has more risks but gets better rewards), and maybe other things.

Good night.