Value's Day Once More

On the eve of the 1929 Crash, Graham was managing what we, in the 21st century, would recognize as a hedge fund. He was long $2.5 million of stocks and bonds against which he was short the same amount. In addition, however, he had $4.5 million in outright long positions, and he had incurred substantial margin debt to own it. In his posthumously published reminiscences, Benjamin Graham: The Memoirs of the Dean of Wall Street (1996), the father of value investing described his state of mind this way: "We were convinced that all of our long positions were intrinsically worth their market price."

So Graham, by heavily mortgaging himself, unwittingly transformed a conservative investment strategy into a risky one. Top to bottom, 1929--32, his fund was down by 70%, a better showing than the 87% drop in the Dow but a calamity still. The once and future investment genius sorely needed income. Where could he find it?

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My Hero, Benjamin Grossbaum

I am a frankly worshipful admirer of Graham's. I love him for his heart as much as for his head. Between 1929 and 1932, his investment partnership lost 70% of its value. Not until 1936 did it recoup all it relinquished since the Crash. Yet Graham persevered and, along with his partner, Jerry Newman, went on to achieve a brilliant long-term investment record—not excluding those three disastrous years. We have all heard the platitude, "The first rule of investing is not to lose money and the second rule is not to forget the first." Very helpful. Well, Graham shows that a debilitating loss is no reason to give up. . . . Never quit.

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Lonnie Rush: Benjamin Graham’s Lost Magic Formula in 1976?

While reading these interviews he did between age 79 and 82, I got the feeling that Graham was enthusiastic as he described a new mechanical formula he had nearly finished testing. He believed his formula was the simplest way for both seasoned analysts and layman investors to find undervalued stocks and outperform the Dow (the performance metric used during his time). After 60 years of analyzing financial statements and managements, Graham said this about projecting earnings, evaluating market share, and analyzing individual companies:

“Those factors are significant in theory, but they turn out to be of little practical use in deciding what price to pay for particular stocks or when to sell them. My investigations have convinced me you can predetermine these logical “buy” and “sell” levels for a widely diversified portfolio without getting involved in weighing the fundamental factors affecting the prospects of specific companies or industries.”

Graham further recommended building a portfolio of 30 diversified stocks meeting such criteria. His study employed strict sale rules that required selling the stocks after a 50% gain or after a two year holding period, whichever came first. Graham noted that in the market downturn of 1973-1974 investors using the formula would have shown paper losses but would have been rewarded soon thereafter for sticking with the formula. Thus, to allow time for the program to work he recommended a minimum of five years. In other words, patience was a requirement for success.

Graham back tested the period from 1926-1976 with his refined formula and concluded that such a program would have earned 15% or more, not including dividends, and would have beaten the Dow by twice as much. He was so excited by the study results that he contemplated including them in the 5 th edition of Security Analysis.

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