Buffett (1987): "If you aren't certain that you understand and can value your business far better than Mr. Market, you don't belong in the game."

We saw the master expand upon his concept of owner earnings and the only two basic jobs that he and his partner Charlie Munger engage in through his 1986 letter to his shareholders. Let us see what investment wisdom he brings to the table in his 1987 letter.

We are living in a fast changing world and every few years there comes a technology or a product that just brings about a revolution and spreads across the globe like a mania. Few examples that come to mind are the automobiles and aeroplanes in the US in the early 20th century or the recent Internet and dot-com mania. However, the fact that the companies in such revolutionary industries rake up equally impressive returns on the stock market is far from truth. While loss making abilities of the US auto companies and airliners are legendary, not less infamous either is the amount of wealth that has been destroyed in the Internet bubble at the cusp of the 21st century. No wonder this is what the master has to say on which companies end up winners in the stock market.

"Experience indicates that the best business returns are usually achieved by companies that are doing something quite similar today to what they were doing five or ten years ago. That is no argument for managerial complacency. Businesses always have opportunities to improve service, product lines, manufacturing techniques, and the like, and obviously these opportunities should be seized. But a business that constantly encounters major change also encounters many chances for major error. Furthermore, economic terrain that is forever shifting violently is ground on which it is difficult to build a fortress-like business franchise. Such a franchise is usually the key to sustained high returns."

"Berkshire's experience has been similar. Our managers have produced extraordinary results by doing rather ordinary things - but doing them exceptionally well. Our managers protect their franchises, they control costs, they search for new products and markets that build on their existing strengths and they don't get diverted. They work exceptionally hard at the details of their businesses, and it shows."

Indeed, with technology changing so fast in industries such as auto and Internet, it becomes really difficult to zero in on a company that will continue to exist ten years from now and in the process still give attractive returns. This is definitely not the case with a single product company existing in an industry, where more the things change more they remain the same.

In an era when investing in equities had been reduced to nothing more than moving in and out of companies based on their quotations, the master was a breed different from the rest. He did not let fluctuations in stock prices influence his investment decisions but rather viewed investments from the point of view of a business analyst, judging companies on the basis of their operating results and viewing stock market not as a guide but as a servant. Laid out below is what perhaps is one of the most lucid yet one of the most effective explanations of how one should view the stock market.

The master says, "Ben Graham, my friend and teacher, long ago described the mental attitude toward market fluctuations that I believe to be most conducive to investment success. He said that you should imagine market quotations as coming from a remarkably accommodating fellow named Mr. Market who is your partner in a private business. Without fail, Mr. Market appears daily and names a price at which he will either buy your interest or sell you his.

Even though the business that the two of you own may have economic characteristics that are stable, Mr. Market's quotations will be anything but. For, sad to say, the poor fellow has incurable emotional problems. At times he feels euphoric and can see only the favorable factors affecting the business. When in that mood, he names a very high buy-sell price because he fears that you will snap up his interest and rob him of imminent gains. At other times he is depressed and can see nothing but trouble ahead for both the business and the world. On these occasions he will name a very low price, since he is terrified that you will unload your interest on him.

Mr. Market has another endearing characteristic - he doesn't mind being ignored. If his quotation is uninteresting to you today, he will be back with a new one tomorrow. Transactions are strictly at your option. Under these conditions, the more manic-depressive his behavior, the better for you.

But, like Cinderella at the ball, you must heed one warning or everything will turn into pumpkins and mice - Mr. Market is there to serve you, not to guide you. It is his pocketbook, not his wisdom that you will find useful. If he shows up some day in a particularly foolish mood, you are free to either ignore him or to take advantage of him, but it will be disastrous if you fall under his influence. Indeed, if you aren't certain that you understand and can value your business far better than Mr. Market, you don't belong in the game."

http://www.equitymaster.com/detail.asp?date=9/6/2007&story=4

Ignore the Market!

Benjamin Graham's final words of advice are:  "Ignore the market!"  He suggested that each investor should try to think of investment as if you were in business with a mad partner called 'Mr. Market'.  Occasionally, 'Mr. Market' is highly optimistic and he is willing to buy your share of the partnership at any price you name.  At other times, 'Mr. Market' is highly pessimistic and is willing to sell you his share of the partnership at any price you offer.

How can one behave rationally in such a situation?

The best approach will be to accept his offer when he is optimistic and buy it back from him when he is pessimistic.  Each time your share of the partnership cycles back and forth, you will make a handsome profit.  Since the stock market is indeed completely manic-depressive, the only right thing to do is to buy and sell on your own terms and not that of the market.

The manic-depressive Mr. Market does not always price stocks correctly.

On March 17, 2000, the stock of Inktomi Corp. hit a new high of $231.625.

• Since they first came on the market in June 1998, shares in the Internet-searching software company had gained roughly 1,900%.
• Just in the few weeks since December 1999, the stock had nearly tripled.

What was going on at Inktomi the business that could make Inktomi the stock so valuable?

• The answer seems obvious: phenomenally fast growth.
• In the three months ending in December 1999, Inktomi sold $36 million in products and services, more than it had in the entire year ending in December 1998.
• If Inktomi could sustain its growth rate of the previous 12 months for just five more years, its revenues would explode from $36 million a quarter to $5 billion a month.
• With such growth in sight, the faster the stock went up, the farther up it seemed certain to go.

But in his wild love affair with Inktomi's stock, Mr. Market was overlooking something about its business.

• The company was losing money - lots of it.
• It had lost $6 million in the most recent quarter, $24 million in the 12 months before that, and $24 million in the year before that.
• In its entire corporate lifetime, Inktomi had never made a dime in profits.
• Yet, on March 17, 2000, Mr. Market valued this tiny business at a total of $25 BILLION. (Yes, that's BILLION, with a B.)

And then Mr. Market went into a sudden, nightmarish depression.

• On September 30, 2002, just two and a half years after hitting $231,625 per share, Inktomi's stock closed at 25 cents - collapsing from a total market value of $25 billion to less than $40 million.

Had Inktomi's business dried up?

• Not at all; over the previous 12 months, the company had generated $113 million in revenues.

So what had changed? Only Mr. Market's mood:

• In early 2000, investors were so wild about the Internet that they priced Inktomi's shares at 250 times the company's revenues.
• Now, however, they would pay only 0.35 times its revenues.
• Mr. Market had morphed from Dr. Jekyll to Mr. Hyde and was ferociously trashing every stock that had made a fool out of him.

But Mr. Market was no more justified in his midnight rage than he had been in his manic euphoria.

• On December 23, 2002, Yahoo! Inc. announced that it would buy Inktomi for $1.65 per share.
• That was nearly seven times Inktomi's stock price on September 30.
• History will probably show that Yahoo! got a bargain.
• When Mr. Market makes stocks so cheap, it's no wonder that entire companies get bought right out from under him.

(As Graham noted in a classic series of articles in 1932, the Great Depression caused the shares of dozens of companies to drop below the value of their cash and other liquid assets, making them "worth more dead than alive.")


Lessons:

Most of the time, the market is mostly accurate in pricing most stocks.

Millions of buyers and sellers haggling over price do a remarkably good job of valuing companies - on average.

But sometimes, the price is not right; occasionally, it is very wrong indeed.

And at such times, you need to understand Graham's image of Mr. Market, probably the most brilliant metaphor ever created for explaining how stocks can become mispriced.

The manic-depressive Mr. Market does not always price stocks the way an appraiser or a private buyer would value a business.

Instead, when stocks are going up, he happily pays more than their objective value; and, when they are going down, he is desperate to dump them for less than their true worth.

Is Mr. Market still around? Is he still bipolar? You bet he is.


Ref: cc Intelligent Investor by Benjamin Graham

Do business with Mr. Market only when it serves Your Interests.

The stock of CMGI, an "incubator" or holding company for Internet start-up firms, went up an astonishing 939.9% in 1999. Meanwhile, Berkshire Hathaway - the holding company through which Graham's greatest discipline, Warren Buffett, owns such Old Economy stalwarts as Coca-Cola, Gillette, and the Washington Post Co. - dropped by 24.9%.

But then, as it so often does, the market had a sudden mood swing. The stinkers of 1999 became the stars of 2000 through 2002.

As for those two holding companies, CMGI went on to lose 96% in 2000, another 70.9% in 2001, and still 39.8% more in 2002 - a cumulative loss of 99.3%. Berkshire Hathaway went up 26.6% in 2000 and 6.5% in 2001, then had a slight 3.8% loss in 2002 - a cumulative gain of 30%.

Lessons:

By refusing to let Mr. Market be your master, you transform him into your servant. After all, even when he seems to be destroying values, he is creating them elsewhere.

• In 1999, the Wilshire 5000 index - the broadest measure of U.S. stock performance - gained 23.8%, powered by technology and telecommunications stocks.
• But 3,743 of the 7,234 stocks in the Wilshire index went down in value even as the average was rising.
• While those high-tech and telecom stocks were hotter , thousands of "Old Economy" shares were frozen in the mud - getting cheaper and cheaper.

The intelligent investor shouldn't ignore Mr. Market entirely. Instead, you should do business with him - but only to the extent that it serves your interests.

Mr. Market's job is to provide you with prices; your job is to decide whether it is to your advantage to act on them. You do not have to trade with him just because he constantly begs you to.

Ref: cc Intelligent Investor by Benjamin Graham

Who is Mr. Market?

Who is Mr. Market?

Mr. Market is the character Benjamin Graham uses to explain illogical mindset of traders . The story goes something like this:

Imagine that you own 50% of a business, which you purchased for RM3,600 mil. Mr. Market approaches everyday to tell you what he thinks the business is worth based on latest news. And everyday, he offers to either buy your business for a price which he forms in his head, or, to sell you his share of the business for that price.

Each day, however, he quotes you a different price from the day before. Sometimes the price he quotes sounds about fair. Sometimes it’s high. Sometimes it’s low.

Let’s say the whole business is producing on average, RM 1,200 mil free cash flow with net profit of RM 600 mil. What is the value of the business to you?

By owning 50% of the business, you own RM 600 mil FCF and net profit of RM 300 mil per annum.You paid around RM 3,600 mil for this business a year ago. Hence, you bought this business for 6 times its FCF and 12 x earnings.Let’s say the nature of the business is stable and you anticipate the FCF and net profit will increase over time,you might not want to sell it unless Mr. Market offers you a ridiculously high price.

One day, Mr. Market offers you an additional 40% extra of what you paid a year ago. He offers RM 5,040 mil to for your holdings.Most of us will let go after making 40% profit per annum.

But if you are a sensible businessperson, you won’t let Mr. Market’s daily communication determine your view of the value of 50% interest in the business. He is a sweet talker and convince you with various economic prediction,charts,information and etc to create doubt and fear in you.

Most of us will be swayed by Mr Market ’s offer.

But as a sensible business owner, you may be happy to sell out to him when he quotes you a ridiculously high price, and equally happy to buy from him when his price is low. But the rest of the time you will be wiser to form your own ideas of the value of your holdings, based on full reports from the company about its operations and financial position.

Remember, fluctuations in the market price for a given business don’t really affect the fundamental value of that business. If you own a share in a company, the value of each share is a function of the business ’s profitability/cash flow/management/branding and not a related to the price quoted in Bursa M’sia.

So, as long you understand the business you’re buying, today’s market price is totally irrelevant.



Ref:

Who is Mr. Market?

http://boyboycute.wordpress.com/2009/03/29/who-is-mr-market/

Are you Mr. Market or Mr. Buffett?

Benjamin Graham's teaching on the shortsightedness of the stock market

There are certainly many opinions in the blogs. Those who visit these for "tips" maybe disappointed.

Investing should be a lonely journey, through hard work guided by your own philosophy and strategy.

Nevertheless, some of the blogs information can be useful too. One can also learn and benefit from the emotions and thought processes driving these bloggers.

You should be aware of the "noises" which are temporarily good or bad news that many bloggers get excited with. For the long term investors, the news that matters are quite different yet again.

Perhaps, this point can be better illustrated by the parable of Mr. Market made famous by Benjamin Graham.

"When Benjamin Graham was teaching Warren Buffett about the shortsightedness of the stock market, he asked Warren to imagine that he owned and operated a wonderful and stable little business with an equal partner by the name of Mr. Market.

Mr. Market had an interesting personality trait that some days allowed him to see only the wonderful things about the business. This, of course, made him wildly enthusiastic about the world and the business's prospects. On other days, he couldn't see past the negative aspects of the business, which, of course, made him overly pessimistic about the world and the immediate future of the business.

Mr. Market also had another quirk. Every morning he tried to sell you his interest in the business. On days he was wildly enthusiastic about the immediate future of the business, he asked for a high selling price. On doom-and-gloom days, when he was overly pessimistic about the immediate future of the business, he quoted you a low selling price hoping that you would be foolish enough to take the troubled company off his hands.

One other thing. Mr. Market doesn't mind if you don't pay any attention to him. He shows up to work every day - rain, sleet, or snow - ready and willing to sell you his half of the business, the price depending entirely on his mood. You are free to ignore him or take him on his offer. Regardless of what you do, he will be back tomorrow with a new quote.

If you think that the long-term prospects for the business are good and would like to own the entire busines, when do you take Mr. Market up on his offer? When he is wildly enthusiastic and quoting you a really high price? Or when he feels pessimistic and quotes you a very low price? Obviously you buy when Mr. Market is feeling pessimistic about the immediate future of the business, because that's when you would get the best price.

Graham added one more twist. He taught Warren that Mr. Market was there to benefit him, not to guide him. You should be interested only in the price that Mr. Market is quoting you, not in his thoughts on what the business is worth. In fact, listening to his erratic thinking could be financially disastrous to you. Either you will become overly enthusiastic about the business and pay too much for it, or you become overly pessimistic and miss taking advantage of Mr. Market's insanely low selling price.

Warren says that, to this day, he still likes to imagine himself being in business with Mr. Market. To his delight he has found that Mr. Market still has his eye on the short term and is still manic-depressive about what businesses are worth."

Key point: In an investment world dictated by shortsighted investment goals, where the human emotions of optimism and pessimism control investors' buy and sell decisions, it is short-sighted pessismism that creates Warren's buying opportunity.

Are you Mr. Market or Mr. Buffett?

Intelligent Investor Chapter 8: The Investor and Market Fluctuations

Chapter 8: The Investor and Market Fluctuations

An investor must prepare both financially and psychologically for the fluctuations certain to occur in the market.

There are two ways an investor tries to profit from fluctuations:

1. Timing: Buy when you think the price will go up, and then sell once it goes up.
2. Pricing: Buy when the price is below fair value and sell once it reaches or exceeds fair value.

Consistent market timing is exceptionally difficult, as is evident by the countless market predictions and forecasts by industry professionals that differ from actual events by a wide margin. The variety of these predictions is great enough that an investor can make any move he chooses and find a prediction that supports this move.

Graham goes so far as to say it is absurd to think that the general public can ever make money out of market forecasting. There is no basis in logic or history to believe otherwise.

With regard to the pricing approach, Graham says that this is also extremely difficult to properly execute. Cycles often last for 5 years or more which causes people to lose their nerve and act irrationally. For example, in a prolonged bull market, people may fear being left behind, so they buy at the slightest indication of a bear market, feel vindicated as the prices escalate further, and then lose when the real bear market returns.

Also, any signals identified by experts to help determine whether this is a bear or bull market have been shown to be inconsistent in successfully identifying the position in the market cycle.

Conclusion: If you are banking on market fluctuations, you will not consistently perform well. Market fluctuations are not sound portfolio policy!

The intelligent investor uses a formulaic approach to determine whether stock prices have risen too high and he should sell, or prices have dropped significantly, and he should buy. Or, in other words, if he should alter the allocation of stocks to bonds in his portfolio (as per the tactical asset allocation policy that Graham discusses in previous chapters). The ideal approach is the rebalancing approach discussed in previous chapters (varying from 50-50 allocation to up to 75-25, and reviewing at set intervals throughout the year).

Business Valuation and Stock-Market Valuation

The stock market is paradoxical in that the highest grade stocks are often the most speculative because they gain great premiums over book value and are based more on the changing moods of the market and its confidence in the premium valuation it had put on the company in the first place. Thus, for conservative investors, they would be best to focus on companies with relatively low premiums placed upon them - a market rate no more than 1/3 above the net tangible-asset value.

However, a stock does not become sound because it can be bought close to asset value. The intelligent investor must also demand a satisfactory price-earnings ratio, sufficiently strong financial position, and the prospect of earnings being maintained over the years.

Intelligent Investors with portfolios close to the net tangible asset valuation of the underlying companies need worry less about stock market fluctuations than those who paid high multiples of earnings and assets. The intelligent investor should disregard the market price and not allow the mistakes that the market will make in its valuation to affect his feelings about the business. Do not let the market’s madness fool you into selling your shares at a loss - such a move requires reasoned judgment independent of the market price.

It is in this chapter that Graham creates the oft-cited Parable of Mr. Market. Essentially, you area private business owner. You own a share that you purchased for $1,000. Your partner is Mr. Market. Every day, Mr. Market quotes you a price for your interest and also offers to sell you his interest for the same price. Sometimes the quote is rationally connected with the business. On other days, it is clear that Mr. Market’s enthusiasm or fear has gotten to him, and the value he has placed is irrational. Graham says the Intelligent Investor would only let Mr. Market’s daily quote affect him if the Intelligent Investor agrees with the price (due to his own analysis of the value of the company), or he wants to buy from or sell to Mr. Market. Unless you want to transact with Mr. Market, you would be wiser to make your own analysis of the value of the company. If you want to transact, then you must compare Mr. Market’s value to the value you reached independently. This parable reflects the way a stock market investor should treat his relationship with the stock market.

MR. MARKET PRINCIPLE

MR. MARKET PRINCIPLE

Value investors make a habit of relating price to value.

They recognize that stock markets rise and fall.

The prices of individual stocks likewise swing widely.

In the case of stocks and stock markets, a bull exhibits excessive optimism, a bear excessive pessimism.

Dreary rationality, where value investors live, lies in between.

There are stocks priced above what the underlying business is really worth and stocks priced below that.

While over long periods of time the process evens out, the ideal strategy is to search aggressively for investment prospects priced below value.

Also read: 10 TENETS OF VALUE INVESTING

1. MR. MARKET PRINCIPLE
2. BUSINESS ANALYST PRINCIPLE
3. REASONABLE PRICE PRINCIPLE
4. PATSY PRINCIPLE
5. CIRCLE OF COMPETENCE PRINCIPLE ****
6. MOAT PRINCIPLE
7. MARGIN OF SAFETY PRINCIPLE ****
8. IN-LAW PRINCIPLE
9. ELITISM PRINCIPLE
10. OWNER PRINCIPLE

Stock Market Prices

MARKET PRICES

Value investing works if stock prices fluctuate around business value. Only then can stocks be bought at discounts to business value (or sold at premiums to business value).

Value investors believe that markets price stocks in ways that produce such gaps.

Graham’s metaphor described this behaviour as Mr. Market, viewing market action as the collective psychological behaviour of human beings prone to periods of excessive optimism and pessimism. The conception yields several insights for what value investing is.

FACTORS INFLUENCING MARKET PRICES

Numerous complex factors influence stock market prices. Graham identified two categories of factors:

• speculative and
• investment.

Speculative factors are the jungle of the marketplace and include

• technical aspects of market trading as well as
• manipulative and psychological ones.

Investment factors relate to valuation, principally assessments of financial data, including

• earnings and
• assets.

Factors sharing traits of both the marketplace and valuations, which Graham called future value factors, include

• managerial qualities,
• competitive circumstances, and
• a company’s outlook for sales and profits.

All of these factors are filtered through the lens of the investing public’s attitude, which produces trading decisions and bids and offers in the market. The output is market price.

The idea that anyone can predict the outcome of this process, or that it works in a way that yields prices just equal to value, is far-fetched. Value investing considers trying to measure market sentiment a waste of time. Value investing focuses primarily on business value, not market price.

Emphasizing businesses over prices enables value investor to know that owning stock means owning an interest in a going concern. That mental quality promotes the discipline necessary:

• to define a circle of competence,
• do financial analysis, and
• assess value-price relationships.

Pervasive market price data makes it harder for equity investors to appreciate that they are part owners of a business, making disciplined analysis elusive.

The only reason to consider market sentiment is because in times of general economic despair and market malaise, the odds of successful stock picking rise. Three factors contribute:
(1) There are more companies likely to be price below value,
(2) There are fewer investment competitors likely to wade into the thicket, and
(3) The media and regulatory pressure tend to promote quality management and conservative accounting.

Also read:

1. Stock Market Prices
2. Market metrics P/E and Intrinsic value
3. Rational Thinking about Irrational Pricing
4. The Anxiety of Selling
5. Control Value of Majority Interest

MR. MARKET

MR. MARKET

Mr. Market is an emotional wreck! His hair is unkempt. His nails are chewed to the quick. He endlessly taps his fingers on the desktop. He rushes from one crisis to the next, and if he has to sit for any length of time, his knee twitches compulsively. How does he keep his job on Wall Street? He is Wall Street.

Think of Mr. Market as a confused and changeable business partner, Graham told his students. Warren Buffett described Mr. Market’s business tactics. “Even though the business that the two of you own may have economic characteristics that are stable,” wrote Buffett, “Mr. Market’s quotations will be anything but. For, sad to say, the poor fellow has incurable emotional problems.”

Mr. Market is compulsive. He shows up every day and makes an offer for your part of the business. If you ignore him he is neither offended nor deterred. He will be there again the next day, and the next, and the next.

Also manic depressive, Mr. Market sometimes becomes euphoric. During these spells he can see only blue skies ahead and endless climbing profits. During those times he rushes in and offers an unrealistically high price for your shares. At the slightest negative news, Mr. Market’s spirits dive. His price then is ridiculously low.

But pay no attention to the mood swings. “Mr. Market is there to serve you, not to guide you,” Buffet explained.

If his offer meets your needs as an investor, you can accept it. If it does not, you may ignore it. If you take advantage of him, Mr. Market never remembers. Crazy as he is, Mr. Market is a convenient business partner.


THRIVING IN EVERY MARKET
Value Investing Made Easy (Janet Lowe):

1. THRIVING IN EVERY MARKET
2. MR. MARKET
3. SUITABLE SECURITIES AT SUITABLE PRICES
4. PAYING RESPECT TO THE MARKET
5. TIMING VERSUS PRICING
6. BELIEVING A BULL MARKET
7. THE PAUSE AT THE TOP OF THE ROLLER COASTER
8. MAKING FRIENDS WITH A BEAR
9. BARGAINS AT THE BOTTOM
10. SIGNS AT THE BOTTOM
11. BUYING TIME
12. IF YOU ABSOLUTELY MUST PLAY THE HORSES

Lessons from a Very Bad Year

Lessons from a Very Bad Year
by Ben Stein
Posted on Monday, December 22, 2008, 12:00AM

At last, this horrible year is almost behind us. Let's hope we never see another one like it.
If someone had told me that the market -- adjusted for inflation -- would be down by more than it was in the Great Depression while most Americans still basically had high prosperity, I wouldn't have believed it possible. It goes to show what stupendously bad Treasury stewardship can do.
If someone had told me Treasury and the Fed would allow the fourth- or fifth-biggest investment bank in America to fail, I would've scoffed. But they did it, and we got a stock market crash, a severe recession, and national fear as the result. The night Paulson and Bernanke let Lehman fail was the night they drove old American investors down.
Theoretical Failings
Meanwhile, we look to the future. And we try to learn from the past. What have we learned?
1. Efficient market theory is extremely limited as a market predictor in times like these. Efficient market theory says that at any given moment, the market price of all stocks reflects all that is known about them -- the price at any given moment is the best estimate of future price.
This is true as far as it goes. And, again, in most times, it goes very far. But in times when what is not known lurks below the waterline like the bottom of an iceberg, dwarfing what lies above and can be seen, efficient market theory is not only limited in effectiveness but downright dangerous.
It turned out that what lay waiting unknown to most of us -- and to the market -- was a wild miscalculation about the true liabilities associated with credit in this country. The true liability on subprime included staggering amounts of derivatives, a high multiple of subprime itself. Ditto for credit card debt, and now, as we're seeing, ditto for commercial mortgage debt.
Not only was that debt questionable, but players had added super-sized bets so big that the markets simply couldn't adjust to them without a serious correction.
Mr. Market Gets It Wrong
So efficient market theory is sunk. The problem is that we have nothing else to replace it except the predictions of many different analysts. Some are right and some are wrong, and they're usually not even close to being as helpful as Mr. Market.
But as my pal Jim Grant notes in his masterful new book, "Mr. Market Miscalculates: The Bubble Years and Beyond," the market is far from infallible and can lead the investor to disaster. Efficient market theory is highly fallible, but it may still be better than anything else.
Bye-Bye, Buy and Hold?
Another lesson to be drawn from this year:
2. Buy and hold as a strategy is very questionable, as my pal Robert Lobban says. It's worked in the past, but in times of severe market stress it just doesn't work. We've now gone 10 years -- many of which were banner years for profits -- without a gain in the broad indices. In some areas, such as REITs and commodities and energy and autos, the losses have been breathtaking.
But trading doesn't work well for most investors either. Even for the best hedge fund geniuses (and actually I don't consider them geniuses at all), trading has often been a catastrophe in the last 15 months.
So, what's the solution? Ben Graham, a real genius who mentored Warren Buffett, concluded near the end of his life that stocks were simply too risky and investors should only be in Treasury bonds.
My pal, Phil DeMuth, along with many others, has long said that investors should have half in bonds. He's right, but even bonds, except for Treasuries, have been whacked this year. But his approach is definitely the right one. Ray Lucia, a super-smart investment guru, says you should have seven years of expenses in cash or near-cash to ride out events like this if you're retired or close to retirement. This turns out to be a simply brilliant suggestion. Ray has a lot of them.
What we're left with is maybe that buy and hold is far from perfect, but if we have enough cash to get us through the bad times we might yet see it work. If not, one hardly knows what to suggest.
Historical Ignorance
The final lesson from 2008:
3. We can't count on the people who rule us to have learned a darned thing from past history. "Those who do not know the past are condemned to repeat it," said the famous Harvard philosopher George Santayana.
Of course, that's a cliche by now and has been for decades. But it is true of Henry Paulson, our pitiful Secretary of the Treasury and, very, very sadly, of Ben Bernanke, our Fed chairman.
Paulson is simply an ignorant, bullying fraud. I never expected much from him. But Bernanke is a scholar, or so I thought, and should've known better than to destroy confidence by allowing Lehman to fail. That was a mistake that no real student of the Great Depression, as Bernanke is, should've made. I would never have thought it could happen, but it did.
It makes me wonder what other mistakes and foolishness our rulers have in mind, and it scares me plenty.
Only Human
In the meantime, please don't blame yourself for your losses. We all make mistakes, yours truly especially. My hat is off to those like Doug Kass who saw it all coming. My hat is not off to those who claimed afterward to have seen it coming. I have met so many people who tell me they sold out in October 2007 that I think I must be the only person left in this country with any stock. (That would make me by far the richest man on the planet, and I guarantee that I'm not.)
We're just human beings with human failings. Efficient market theory fooled us. Buy and hold fooled us. Trust in government fooled us. My own failings fooled me. Something else will fool us next time. As my grandmother used to say when her children made a mistake, "Don't worry, you'll do it again." If we learn even a little from what's happened, we're far ahead of Henry Paulson.
In that spirit, have a Merry Christmas, Happy Hanukkah, and Happy New Year.

http://finance.yahoo.com/expert/article/yourlife/130751;_ylt=AgK_TOlH.RnkvqbqB2UHhnO7YWsA

Think for Yourself

The cheaper stocks got, the less eager people became to buy them.

They were imitating Mr. Market, instead of thinking for themselves.

The intelligent investor shouldn't ignore Mr. Market entirely. Instead, you should do business with him - but only to the extent that it serves your interests.

Mr. Market's job is to provide you with prices; your job is to decide whether it is to your advantage to act on them.

You do not have to trade with him just because he constantly begs you to.

By refusing to let Mr. Market be your master, you transform him into your servant. Afterall, even when he seems to be destroying values, he is creating them elsewhere.

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In 1999, the Wilshire 5000 index - the broadest measure of US stock performance - gained 23.8%, powered by technology and telecommunications stocks.

But 3,743 of the 7,234 stocks in the Wilshire index went down in value even as the average was rising.

While those high-tech and telecom stocks were hotter (than the hood of a race car on an August afternoon), thousands of "Old Economy" shares were frozen in the mud - getting cheaper and cheaper.

The stock of CMGI, and "incubator" or holding company for Internet start-up firms, went up an astonishing 939.9% in 1999.

Meanwhile, Berkshire Hathaway - the holding company through which Graham's greatest discipline, Warren Buffett, owns such Old Economy stalwarts as Coca-Cola, Gillette, and the Washington Post Co. - dropped by 24.9%.

But then, as it so often does, the market had a sudden mood swing. The Old Economy stinkers of 1999 became the stars of 2000 through 2002.

As for the two holding companies, CMGI went on to lose 96% in 2000, another 70.9% in 2001, and still 39.8% more in 2002 - a cumulative loss of 99.3%.

Berkshire Hathaway went up 26.6% in 2000 and 6.5% in 2001, then had a slight 3.8% loss in 2002 - a cumulative gain of 30%.

Ref: Intelligent Investor by Benjamin Graham.

Embracing a bear market

Over a 10- or 20- or 30-year investment horizon, Mr. Market's daily dipsy-doodles simply do not matter.

In any case, for anyone who will be investing for years to come, falling stock prices are good news, not bad, since they enable you to buy more for less money.

The longer and further stocks fall, and the more steadily you keep buying as they drop, the more money you will make in the end - if you remain steadfast until the end.

Instead of fearing a bear market, you should embrace it.

The intelligent investor should be perfectly comfortable owning a stock or mutual fund even if the stock market stopped supplying daily prices for the next 10 years.

Paradoxically, "you will be much more in control," explains neuroscientist Antonio Damasio, "if you realize how much you are not in control." By acknowledging your biological tendency to buy high and sell low, you can admit the need to dollar-cost average, rebalance, and sign an investment contract.

By putting much of your portfolio on permanent autopilot, you can fight the prediction addiction, focus on your long-term financial goals, and tune out Mr. Market's mood swings.

Ref: The Intelligent Investor by Benjamin Graham