The original article was written by Henry Jackson.
Are index funds really a good idea, or should you opt for a special situations approach for your portfolio?
One piece of Benjamin Graham advice that becomes clear over time is that common stock investing is really for everyone, regardless of income level. But, what exactly did Benjamin Graham recommend for investors at different income levels?
In 1955, Graham was interviewed by U.S. News & World Report and discussed his opinions on investing at the following 2017 dollar income levels: $45,000, $90,000, $180,000, $225,000, $450,000 & $900,000(i). When asked by the interviewer about the suitability of long term common stock investing for the man of moderate means, Graham replied,
“[C]ommon stock investing has the advantage and can provide a higher return than you would get on bonds, and they provide a measure of protection against inflation.”
Graham’s response is important as it is meant for a “man of moderate means.” In a 2016 Gallup poll, 52% of U.S. adults owned stocks (individual shares, 401Ks, mutual funds, pension plans, etc) while fewer than 15% owned individual stocks directly. Investors that avoid individual stocks believe that investing in individual stocks…
1) Is time consuming
2) Requires a high level of intelligence
3) Is risky
4) Is just not possible due to lack of money.
Graham couldn’t disagree more strongly - but his prescription for investors at each income level differed. What exactly did he say?
Benjamin Graham Advice For Low Income Earners
Graham initially stated in his interview that he would not recommend common stock investing for an investor with a $45,000(i) income and little savings because what the investor could gain by having a common-stock component in his savings isn’t large enough to warrant the amount of intelligence and character needed to carry on a sound common stock investment program. Later in the interview he corrected the statement by saying,
“...it is possible for the small man, the $45,000 a year man who wishes to build up an interest in common stocks out of his modest savings to do so reasonably well by following one of these accumulation programs in the investment fund area.”
Graham was clearly against the idea of the $45,000 man investing in individual stocks but felt that a mutual fund type investment would be a satisfactory alternative. This is where most American stock investors are today. Their money is placed in an investment fund (i.e. ETF, 401K, etc.). In the interview, Graham’s initial assessment of the $45,000 man seemed based on this individual always remaining at the same income level. Most people (myself included) expect their incomes to rise overtime. This factor occurred to Graham later in the interview when he said,
“[T]he $45,000(i) a year man should not be considered as having a fixed income as most people are expecting to earn more than that as they progress in their careers. It would not hurt the $45,000 a year man to start out in some common stock program, and get an education in common stocks, in part by practice.”
So there it is. This piece of Benjamin Graham advice is a strong argument for even lower income earnings devoting time to common stock investing - likely by investing along side those skilled in business & investment (ie. what special situation practitioners call "jockey stocks" or even piggybacking off of "activist investors"). But, what about higher income levels?
Benjamin Graham Advice For Those Earning A Good Salary
Graham talked briefly about investors in the $90,000 to $180,000 range and had specific advice regarding asset allocation. Graham said,
“On the whole they can go higher in the common-stock spectrum than the persons who don’t have earnings independent of capital. They could get into the two-thirds common stocks area very soundly.”
Those who don’t have income apart from interest earned on capital are what we would today dub professional private investors or the super wealthy. These people can sometimes be jobless, managing their capital as they see fit. In this statement, Graham makes a clear distinction between those who earn money through a job and those that earn money off of interest on their own capital and suggests that employees collecting at least $90,000 in salary are more fit to have a larger portion of their money in common stocks. This is a piece of Benjamin Graham advice that doesn’t typically get mentioned. Though, today, fixed income assets that may replace stocks in a portfolio are often very expensive and expose individual investors to a lot of risk. For that reason, if you have a long term horizon, we recommend small investors hold a good chunk of cash in a high yield savings account for a rainy day fund and the rest in a portfolio made up of well selected special situation stocks. More on this below.
Benjamin Graham Advice For Those Earning $225,000 to $900,000 Per Year
So, would Benjamin Graham advise an even higher percentage invested in common stocks for the investor at the $225,000 income level?
“I don’t believe so, because, when you get beyond that range, you get to a different question where it’s not so essential to try to get the maximum results out of your investments, but it becomes important to feel that you are protected against any eventuality. One of the advantages to having a lot of money is that nothing can hurt you.”
Putting Graham’s 1955 comments regarding “feeling protected” into historical perspective, the U.S. economy was thriving on the post-war boom. Citizens were moving west, post war production gains were providing goods at a great clip, ergo providing a healthy job market and accelerating the growth of the middle class. It is repeatedly looked at as a great time in American history.
Contrast that 1950s man with his 2017 counterpart at the $225,000 level and it’s a different story. There is a shrinking, overburdened middle class, most production jobs have either gone overseas or have been taken by robots and there is an absence of security or general optimism. Instead of feeling protected, the $225,000 man of 2017 just wants to survive. This inevitably means protecting your downside.
At higher income levels of $450,000 and $900,000, being in control of one’s investment portfolio and having greater options when investing is paramount. Graham said,
“...the $450,000 man would feel that he would like to look over the situation in investments at least and consider making decisions of his own in the kind of securities that he wants. The amount of money that he has would make it worthwhile to give it thought and considerable care. I’m not so sure that this man would necessary do any better than he would do if he bought mutual fund shares, but it’s more natural and more interesting for him to do other things.”
This piece of Benjamin Graham advice stresses the importance of making your own investing decisions - more for psychological reasons than for the purpose of earning larger returns. Those of higher income brackets likely feel the need to have greater stewardship of their savings, and for good reason - is a significant amount of money. This level exhibits the culmination of all the necessary study the $45,000 man should do as he progresses up the wealth ladder.
At the $900,000 level investment choices increase, and Graham hints at this increased freedom by saying,
“[T]ypically he invests money as it becomes available. There his selection of stocks will, I supposed, depend on the amount of attention that he is able to give to the subject, his personal equipment, and so forth.”
So those earning large salaries need to take an increased interest in their investments as large chunks of money need to be put to work when obtained. And, as in the Intelligent Investor, a lot of the investor’s decision rests on how much effort he is intent on putting into his investment program to earn better than average results.
Benjamin Graham Advice: Stepping Stones And Government Bonds In Context
Graham’s thoughts on investing at different income levels should not be seen as isolated from each other. I see them as stepping stones for the modest investor to build upon and aspire to. As the modest investor’s income increases overtime, there should be a corresponding increase in his investing acumen and control over investment decisions.
Today, the public is more educated then ever and information is widely available. Add to that a tremendous advancement in the field of value or special situation investing and managing one’s portfolio is a lot more viable today than it was in 1955.
But that doesn’t mean that just anybody can open a brokerage, start value investing, and earn fantastic returns. You still need to spend a tremendous amount of time learning how to go about analyzing stocks, sourcing stock ideas, and then doing the actual research. This is, of course, above and beyond managing your actual portfolio. Real investing is simple, but it still requires significant effort and time in order to do well - and if you’re going to invest, you should be investing well. Still, Benjamin Graham’s advice for each income level provides an interesting guide to managing money today.
Graham’s article mostly focused on the amount of capital to allocate towards stocks in a portfolio. Unlike we’d suggest today, at no point did Graham advocate a 100 percent stock allocation. It’s always between a partial allocation and 2/3rds of a portfolio, with the balance in government bonds.
Once again, we have to put Graham’s 1955 comments into context. The interest rate on the ten year US Treasury bond during 1955 was as low as 2.61 percent and as high as 2.97 percent. The same bond in 2024 had an interest rate of roughly 4.3 percent. Taking into account modern inflation and the fact that in 1955, $5,000 in income is equal to over $55,000 today, we can see that bonds do a poor job of keeping up with inflation, never mind staying ahead of it.
Also, with inflation rearing its ugly head today, are higher yields likely in the future? This would certainly mean a permanent loss of capital for bond holders. Since value investors look for a margin of safety, bonds are currently best avoided. What other types of investments should investors avoid?
Benjamin Graham Advice On Which Stocks To Avoid
Near the end, Graham discussed growth stocks and, despite their appeal, they had much to be desired. Graham stated,
“It’s hard to tell how good knowledge is when it comes to growth stocks as they lead to the future and you don’t really ever have any knowledge of the future. You may have a more expert guess than someone else but it’s still a guess. Many mistakes have been made buying growth stocks on the theory that the future will duplicate the past.”
This is where the aforementioned reasons people avoid stocks come into play. What is more time-consuming and risky than trying to predict the future? The very act of trying to make money predicting the future presupposes a high level of intelligence. Growth stocks have great stories and must do better than the overall market in order to be successful.
But, you pay a premium for great stories and assumed future growth - they’re highly sought after stocks every private investor, mutual fund manager, and hedge fund honcho wants in their portfolio. Unfortunately, prices are often so high that future prospects are already accounted for in the price of the stock, leaving substantial downside if growth doesn’t materialize. Growth investors are among the most broken hearted in modern finance.
The Perfect Solution For private investors
Taking everything into account, what can investors today do? The theme Graham strung through all income levels is that all investors should strive to own individual stocks. There is a great solution for putting together a high performance stock portfolio and it does not involve indexing - I’m talking about high quality special situation stocks.
Which flavor of special situation investing your attracted to will very much depend on your own interests and abilities. If you're great with mathematics and love digging through filings to uncover chunks of gold, then you'll probably like arbitrage, spin offs, rights offerings, and even corporate restructurings. If you like basing your investments on a proven record, you may prefer jockey stocks or piggybacking off of activists.
Whichever you prefer, Event Driven Daily provides a free service where we email you every new special situation stock we uncover. This is a fantastic place to start your own sleuthing. Enter your email address below to get started because there's always an interesting situation to dissect.
Benjamin Graham Advice On Building a Value Investing Portfolio
Event Driven Daily is the alpha & omega of event driven stock investing as it is the only resource that provides a comprehensive list of new special situation stocks. The only question is how much to allocate toward your investments and at what time intervals.
Ben Graham discussed dollar cost averaging as a worthwhile method. Graham had this to say on the subject,
“Dollar averaging is a method of investment under which you set aside regularly a fixed amount of money and invest it in common stocks generally….. By investing the same amount of money at regular intervals-say, every three months-you get two advantages. One is that over the years your investment reflects the average market price rather than the high market levels-which is where you are likely to buy if you follow the crowd. Secondly, the arithmetic of dollar averaging gives you more shares at the lower prices than at the higher prices, so that your average cost is lower than the arithmetical average.”
This is a timeless method for the long term investor. Set a regular amount and stick to it. Change the amount only if your circumstances call for it, such as an increase in income.
Investing in individual common stocks is for everyone. Don’t wait or don’t delay - this piece of Benjamin Graham advice shows that Graham thought it a major mistake:
“Well waiting is a difficult operation itself. While you’re waiting, you’re wondering how much you’re missing, whether you’ll ever have a chance to get back at a better time. When the chance does occur, you wonder when the right moment to start coming in is. All those things are difficult decisions to make. It’s easier to do the thing mechanically than it is to do it by those judgments.”
So, you just have to do it. Timing the market is a fool’s game while the most successful pros just buy cheap stocks. Over time, you'll develop significant skill, which will help you produce some great investment analysis.
Enter your email in the box below to receive free special situation stocks as soon as we uncover them because you do not want to let an outstanding event driven opportunity pass you by.
i 1955 income levels of $5,000, $10, 000, $20,000, $25,000, $50,000, $100,000 have been inflation adjusted to 2017 income levels. Calculator used based on Consumer Price Index (CPI) provided by the Bureau of Labor Statistics.
