I first discovered value investing around a year after I started investing.
In hindsight, I will admit I should have done more research on the topic than I did, as I did not know much when I began to invest my hard-earned money.
That being said, learning via my mistakes helped me discover value investing, and the core concept of value investing: do not lose money.
Learning from the master
My investing style and knowledge of the subject altogether changed after I read Benjamin Graham’s "The Intelligent Investor." By far the most important lesson this book taught me was the notion that a share is a piece of a business, not just a piece of paper for speculation.
It is difficult to estimate how much I have made (or avoided losing) by knowing this critical piece of advice, but there is more to it than money. Graham’s advice has kept me away from some of the most speculative stocks and investment fads, which has helped me refine and streamline my process.
Investment verus speculation
The realization that a stock is a piece of a company, not just a piece of paper, is the cornerstone of Graham’s teachings. Financial information, not price fluctuations, is the most crucial factor of security analysis. To illustrate this point, Graham used his now-famous Mr. Market analogy:
"...Imagine that in some private business you own a small share that cost you $1,000. One of your partners, named Mr. Market, is very obliging indeed. Every day he tells you what he thinks your interest is worth and furthermore offers either to buy you out or to sell you an additional interest on that basis. Sometimes his idea of value appears plausible and justified by business developments and prospects as you know them. Often, on the other hand, Mr. Market lets his enthusiasm or his fears run away with him, and the value he proposes seems to you a little short of silly. "
Of all the investment advice and research I have seen over the years, I believe this is the most valuable:
"If you are a prudent investor or a sensible businessman, will you let Mr. Market's daily communication determine your view of the value of a $1,000 interest in the enterprise? Only in case you agree with him, or in case you want to trade with him. 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."
This advice is trying to get to the vital point that the market is a pricing mechanism for a liquid asset. There is no obligation to buy or sell for either party and 90% of the time, Mr. Market is wrong.
Not only does this concept define value investing, but it also illustrates the difference between investing and speculation. These two ideas come hand in hand. Speciation is betting on price, and investing is betting on the success or failure of a particular business -- it has nothing to do with the stock price.
“The most realistic distinction between the investor and the speculator is found in their attitude toward stock-market movements. The speculator's primary interest lies in anticipating and profiting from market fluctuations. The investor's primary interest lies in acquiring and holding suitable securities at suitable prices. Market movements are important to him in a practical sense, because they alternately create low price levels at which he would be wise to buy and high price levels at which he certainly should refrain from buying and probably would be wise to sell."
Put together, this is probably the most valuable investment advice I have ever received. To this day, I re-read Graham’s words on a regular basis to make sure I am not letting my emotions get in the way of sensible investment decisions.
