Go into the 2007 stock market armed with Ben Graham’s wisdom

The beginning of  a new year is a good time to take stock and to review basic investment principles. Anyone investing in the stock and bond markets could do no better than to review the timeless and valuable lessons taught by legendary investor Benjamin Graham. Known as the father of securities analysis and as Warren Buffett’s stock market tutor, Graham, who died in 1976, distilled his experience in the stock market in a popular book, The Intelligent Investor, first published in 1949.

Graham was a value investor who scoured the market for bargain stocks. His own experiences in the 1929 stock market crash and aftermath taught him just how hard it is for the average investor to succeed and to go against the crowd. He updated The Intelligent Investor several times, producing his last version in 1973. The best current version is the Collins Business Essentials imprint that was revised in 2003 with extensive footnotes by Money magazine writer Jason Zweig. It might be the best $19.95 purchase an investor can make.
You can use Graham’s wisdom—as supplemented by Zweig—to harden your own resolution to be a better investor in 2007 and beyond. First, remember Graham’s advice that it is not hard to obtain credible returns in the market, but the skill required to beat the market is beyond most of us: “If you merely try to bring just a little extra knowledge and cleverness to bear upon your investment program, instead of realizing a little better than normal results, you may well find that you have done worse,” he wrote.

Second, you shouldn’t put money in the stock market unless you realize the difference between investing and gambling, he warned: “Everyone who buys a so-called ‘hot’ common-stock issue… is either speculating or gambling.” Speculators should limit their bets to a portion of their portfolios (“the smaller the better,” Graham said) and never add money to it just because it is up. Instead, Graham says, that’s the time to sell. Graham believed the average investor should maintain a balanced portfolio of stocks and bonds, keeping no less than 25% and no more than 75% of the portfolio in stocks. “His simplest choice would be to maintain a 50-50 proportion between the two, with adjustment to restore the equality when market developments had disturbed it by as much as, say, 5%,” he wrote.

Investors should also be wary of various popular formulas that purport to beat the market. Such approaches usually work for a short time until enough investors catch on and erase the formula’s advantage, he wrote. “The moral seems to be that any approach to moneymaking in the stock market which can be easily described and followed by a lot of people is by its terms too simple and too easy to last.” He noted the wisdom of 17th century Baruch Spinoza: “All things excellent are as difficult as they are rare.”

Finally, don’t trust market forecasters or your own feelings about the future. In a footnote Zweig notes that on Jan. 7, 1973, none other than former Fed Chairman Alan Greenspan, then a private economist, forecast a bull market, just as the vicious bear market of 1973-74 was about to begin.