Graham's idea of Return and Risk
We think of oursleves as running an investment operation- a play between risk and return, opportunity and uncertainity. We try to do this by constructing a portfolio of common-stocks that is supposed to give a better return than the general market, over a long period. Two things are integral part of any portfolio- the risk that is taken and the return that is expected.

Understanding of these terms greatly impact the performance of the portfolio. And who better is to lead us through this than the legendary Benjamin Graham. We read a book written by him, “The Intelligent Investor”. Let us describe some of his timeless wisdom.

Mr. Graham challenges few of the notions that are prevailing in the minds of a general public. The general notion of the rate of return which the investor should aim for is proportional to the degree of risk he is ready to incur. Second notion- Risk is the measure of volatility or the temporary fluctuations in the price of a stock.

Instead, Graham recognizes the rate of return as a measure of the intelligence and effort the investor is willing and able to bring to bear on his task. His view of risk is also different. According to him, risk is the measure of the chance of permanently losing money.

Now, the differenence in perspective of Mr. Graham on the 'risk' and 'return' is because of the difference in approach and an enormous amount of experience that he brings in to the investment operation. The holder of a stock acutally has a double status. On the one hand, investor holds a piece of paper, a stock certificate, which can be traded at any moment at any price depending on his forecasting skills. On the other hand, investor is a silent partner in a business where the results of his investment is entirely based on the performance of the business. Mr Graham holds the view of latter.

The philosphy, the rational enquiry of the assumptions and methods , with which the investor performs his investment operation greatly affects the performance. Mr. Graham suggests the following approach to the investments.

1. Ownership Mentallity
Thinking of yourself as a owner of the business when you own a piece of stock. This entails a thorough understanding of the business, including its industry positioning, financial strenght, management quality and intrinsic value assessment.

2. Long Term Perspective
The market price of that stock will keep fluctuating on a dialy basis. Instead of getting caught up in daily market fluctuations, investor should focus on the fundamentals of the business and capitalize on opportunities when the market prices deviate from the intrinsic value.

3. Margin of Safety
This is one of his cornerstone principles. Investor should have sufficent Margin-of-Safety by ensuring that the purchase price is sufficiently below the intrinsic value of the business to protect investors form market volatility and calculation errors.

We think these ideas can be used by an investor as a roadmap in his investment journey. By embracing these ideas, investor can navigate the market with the greater confidence and resilience. But, before taking on any idea, it is important to validate it over a long period. An article by Mr. Warren Buffett, “The Superinvestors of Graham-and-Dodsville”, who himself has followed this roadmap for more than 60 years, reinforces the relevance and effectiveness of these ideas over the long term.

So, few of the many ideas that we can learn from Mr. Graham and deploy in our investment operation are -
  • A different view on the risk and the return.
  • Having a long term perspective.
  • Thinking like a businessman when purchasing a stock.
  • Have sufficient margin-of-safety on your purchase

Disclaimer: The above are the thoughts that we were able to take out from the book. We try to apply these thoughts to our investment operation. We are sure that there are several more ideas that can be taken out from the book. Also, we can be wrong in our thinking or that our thinking can change in the future as we learn more. So. Let's move forward with a sense of skepticism.