The Intelligent Investor & Jim Cramer's Real Money

I. Intelligent Investor summary

Benjamin Graham's The Intelligent Investor, published in 1949, was the first book to describe what individual investors need to achieve financial success. The latest revised edition ($19.95, in paperback by HarperBusiness), with commentary by Money magazine's Jason Zweig and a preface by Warren Buffett, proves that it could also have been the last. That's how timeless and relevant Graham's advice is today.

Graham's approach to buying stocks shaped the careers of myriad value investors, including Buffett. He mixes fatherly advice about controlling one's emotions in the manic market with technical tips (e.g., buy stocks priced at less than 120% of net tangible assets) about what to look for when picking stocks--something, by the way, he advises against unless you're willing to put in the work necessary to justify the risk.

Defensive investors strategies for stock selection

Defensive investors have two possible strategies for stock selection:

Buy the Market - Acquire a cross-section sample of the leading issues. This will include both high-priced popular and low-priced unpopular companies. This can be done easily today by buying a low-cost index fund, like those offered by Vanguard.

Zweig describes index funds as “the best tool ever created for low-maintenance stock investing - and any effort to improve on it takes more work (and incurs more risk and higher costs) than a truly defensive investor can justify.” I'll write more about index funds when I review The Little Book of Common Sense Investing by John Bogle.

Select Individual Stocks with a minimum quality of past performance and financial position. In selecting these stocks, the defensive investor must follow the seven criteria set out in an earlier chapter:

Adequate Size (Today, this means at least $2 billion in market value)

Sufficiently strong financial condition (at least 2:1 current ratio)

Earnings stability (10 years of consistent earnings)

Dividend Record (uninterrupted payments for 20 years)

Earnings Growth (Minimum of at least 1/3 increase in per-share earnings in the past 10 years using three year averages at the beginning and end)

Moderate Price/Earnings Ratio (No more than 15x)

Moderate Ratio of Price to Assets (Current price not more than 1.5 x book value)

Looking at # 6 and 7, Graham suggests a good rule of thumb: The Price/Earnings ratio times the Price/Assets ratio should not exceed 22.5.

Once you have found stocks that meet all of these criteria, it is time to do your homework and look through their annual and quarterly reports, and proxy statements. Also, check out what % of the company's shares are owned by institutions. Zweig says that anything over 60% sugests the stock is “overowned” (when the institutions sell, they tend to do so in lockstep, killing the share price).

By following the above rules, the defensive investor creates an adequate factor of safety upon which he can rest.

It is at this point that Graham makes a point that must be understood to grasp this book: You must recognize that, while you invest in the present, you invest for the future, and in so doing, there are only ...