The Intelligent Investor


Andrew Carnegie once offered some free advice on how to get rich: “Put all your eggs in one basket, and then WATCH THAT BASKET .” His friend, Mark Twain, borrowed the remark but had a bad habit of not practicing what he preached, and he was often in severe money trouble.

But Andrew Carnegie followed his own advice with a basket called the Carnegie Steel Company. He watched it very carefully indeed while it grew over thirty years from nothing to the largest—and by far the most profitable—steel company on the face of the earth.

Carnegie was, at least in this respect, a typical progenitor of a great American fortune. The majority of such fortunes have come about because someone saw opportunity in a dawning technology and ran a business that exploited that technology better than his competitors did. That’s what Cornelius Vanderbilt, a generation older than Carnegie, had done with railroads, what John D. Rockefeller, Carnegie’s contemporary, did with oil, and what Bill Gates, young enough to be Carnegie’s great-great-grandson, has done with software.

Warren Buffett, currently second only to Gates on the FORBES Four Hundred List, is a twelve-billion-dollar exception to this rule. Buffett is an investor, not a manager. In other words, he puts his eggs into a number of other people’s baskets and expects them, not himself, to turn the eggs into chickens.

In theory this should be an easier way to make a fortune. There are no messy corporate decisions to make about expansion, retrenchment, mergers, or prices. Instead there are only the clean, either-or decisions of buy, sell, or hold.

Of course, bettors at a roulette table face equally clean-cut decisions and, like all too many investors, make the wrong one. But picking investments, unlike roulette, is not a matter of pure chance. Mr. Buffett, after all, has for the last thirty-five years been making consistently great choices.

But even for lesser mortals, there are reliable guidelines for investing that have been around for more than sixty years. They are in fact the very ones Buffett uses, for—if Sir Isaac Newton will forgive me—if Buffett has seen farther in the art of making investment decisions, it is because he has stood upon the shoulders of a giant, Benjamin Graham.

Graham was born Benjamin Grossbaum in London in 1894. (The family name was changed in 1917 when America’s entrance into World War I made German-sounding names highly unpopular.) His parents, importers of china and bric-a-brac, were immigrants from Russian Poland, where his grandfather had been the grand rabbi of Warsaw. Benjamin was a year old when the family emigrated again, this time to New York City, where they continued importing china.

Graham’s father died when he was nine, and his mother had to struggle hard to raise her children without him. Graham proved himself an extraordinarily good student. Math was always his best subject, but he learned to read no fewer than six languages, including Latin and Greek, while attending Boys High School in Brooklyn, one of the city’s premier public schools, and then Columbia University.

After college he was offered several teaching jobs at Columbia, but he preferred to work on Wall Street. He married at this time and had five children by his first wife (there also would be a child by his third wife). Emotional relationships were always difficult for Graham, who preferred the neat, reliable truths of numbers. All three of his marriages failed, and he was distant with his children.

But because numbers sang to him as they sing to few others, he was drawn to the statistics issued by the government and to the annual reports of companies whose securities were traded on Wall Street. He quickly realized that these were gold mines of information useful for picking investments. That this seems monumentally obvious today is in fact a monument to Benjamin Graham, who pioneered a field named only in the 1930s: securities analysis.

The annual report, like the accounting profession, had become a regular part of the American business scene in the 189Os. But because it was bankers who had caused their creation, the reports were not very forthcoming with information that was of use to investors. Instead they emphasized what was important to bankers: creditworthiness.

Graham soon made a name for himself as someone who could spot value in the numbers. In 1915 the Guggenheim interests decided to liquidate a company called Guggenheim Exploration, then selling for $68.88 a share. Graham quickly noticed that many of the assets of the corporation were in the form of shares of other publicly traded companies and that even with the most conservative valuation of the company’s fixed assets, the net asset value of each share was at least $76.23, a virtually guaranteed profit of more than 10 percent. Graham lacked the money to invest himself, but he handled the matter for others, taking a 20 percent cut of the profits.

Similarly, in the early 1920s Graham noted that the market value of Du Pont stock was no more than the market value of the General Motors stock the Du Pont company owned. (Du Pont was a major shareholder in General Motors until antitrust action forced it to divest itself of GM stock in the 1950s). Since Du Pont owned vast other assets besides the GM stock, the market must have been valuing Du Pont stock too low or GM stock too high. But which was it?