Essential Takeaways From Chapter 8 of The Intelligent Investor: The Investor and Market Fluctuations

 

In Chapter 8 of "The Intelligent Investor," Benjamin Graham provides insight into how an investor can handle market fluctuations in a way that minimizes emotional exposure and positions him for long-term gains.

Graham argues that an investor must be comfortable with the fact that the market will swing over time and that these fluctuations present an opportunity for investors to take advantage of buying after each major decline and selling after each major advance.

In this article, we will delve deeper into Graham's approach to handling market fluctuations, the importance of business valuations vs stock market fluctuations, and bull market indicators.

Capitalizing on Market Fluctuations

Graham acknowledges that market fluctuations can swing as high as 50% increases from an issue's lowest price and 33% decreases from the issue's highest price. Graham argues that these fluctuations provide an opportunity for investors to capitalize on them in two ways: timing and taking advantage of buying after each major decline and selling after each major advance.

However, Graham cautions that trying to time the market will most likely lead to becoming a speculator and suffering the results of speculation.

The "Buy-Low-Sell-High" Approach

Instead of trying to forecast market trends, Graham advises investors to take advantage of buying after each major decline and selling after each major advance.

He reminds investors that even if one trend seems to be a "new wave" of the market, it is likely to end. If the prices seem too high, use the data to support your findings.

Remind yourself that you must keep a strong emotional discipline to hold off buying at extremely high levels and that a 50% decline fully offsets the preceding advance of 100%.

Mechanical Balancing to Remove Emotion

To remove emotion from investment decisions, Graham advises investors to use mechanical balancing. As the market rises, rebalance by selling stocks to put proceeds in bonds.

As it decreases and stocks become cheaper, reverse course. Graham advises a 75/25 stock/bond split for someone comfortable with a high level of risk and to rebalance every six months or a year.

Business Valuations vs. Stock Market Fluctuations

Graham reminds investors that stock prices are at the whim of the market, not just subject to their true value, as it would be if the investor were a private owner. He emphasizes that the better the quality of the common stock, the more speculative it is likely to be.

Therefore, an investor who handles public issues is exposed to the fantastical Mr. Market. Graham argues that a conservative investor who pays attention to his selections may be best suited to concentrate only on issues that are selling close to a reasonable approximation of the tangible-asset value and not more than 1/3 above that figure.

Bull Market Indicators

Graham cautions that even if an investor finds himself in a bull market, it is important to keep a level head and remain objective. The investor must remember that a bull market will not last forever, and he must be prepared to take advantage of market fluctuations when they occur.

Graham lists bull market indicators such as a historically high price level, high price/earnings ratio, low dividend yields as against bond yields, much speculation on margin, and many offerings of new common stocks of poor quality.

Conclusion

In conclusion, Graham's approach to handling market fluctuations centers around an investor's ability to remove emotion from investment decisions. He advises investors to take advantage of buying after each major decline and selling after each major advance and to use mechanical balancing to remove emotion.

Graham also reminds investors of the importance of business valuations versus stock market fluctuations and lists bull market indicators to help investors remain objective. While it is impossible.