Security Analysis: Sixth Edition, Foreword by Warren Buffett (Security Analysis Prior Editions)

Book Preface

Seventy-five years after Benjamin Graham and David Dodd wrote Security Analysis, a growing coterie of modern-day value investors remain deeply indebted to them. Graham and David were two assiduous and unusually insightful thinkers seeking to give order to the mostly uncharted financial wilderness of their era. They kindled a flame that has illuminated the way for value investors ever since. Today, Security Analysis remains an invaluable roadmap for investors as they navigate through unpredictable, often volatile, and sometimes treacherous financial markets. Frequently referred to as the “bible of value investing,” Security Analysis is extremely thorough and detailed, teeming with wisdom for the ages. Although many of the examples are obviously dated, their lessons are timeless. And while the prose may sometimes seem dry, readers can yet discover valuable ideas on nearly every page. The financial markets have morphed since 1934 in almost unimaginable ways, but Graham and Dodd’s approach to investing remains remarkably applicable today.

Value investing, today as in the era of Graham and Dodd, is the practice of purchasing securities or assets for less than they are worth—the proverbial dollar for 50 cents. Investing in bargain-priced securities provides a “margin of safety”—room for error, imprecision, bad luck, or the vicissitudes of the economy and stock market. While some might mistakenly consider value investing a mechanical tool for identifying bargains, it is actually a comprehensive investment philosophy that emphasizes the need to perform in-depth fundamental analysis, pursue long-term investment results, limit risk, and resist crowd psychology.

Far too many people approach the stock market with a focus on making money quickly. Such an orientation involves speculation rather than investment and is based on the hope that share prices will rise irrespective of valuation. Speculators generally regard stocks as pieces of paper to be quickly traded back and forth, foolishly decoupling them from business reality and valuation criteria. Speculative approaches—which pay little or no attention to downside risk—are especially popular in rising markets. In heady times, few are sufficiently disciplined to maintain strict standards of valuation and risk aversion, especially when most of those abandoning such standards are quickly getting rich. After all, it is easy to confuse genius with a bull market.

In recent years, some people have attempted to expand the definition of an investment to include any asset that has recently—or might soon—appreciate in price: art, rare stamps, or a wine collection. Because these items have no ascertainable fundamental value, generate no present or future cash flow, and depend for their value entirely on buyer whim, they clearly constitute speculations rather than investments.

In contrast to the speculator’s preoccupation with rapid gain, value investors demonstrate their risk aversion by striving to avoid loss. A riskaverse investor is one for whom the perceived benefit of any gain is outweighed by the perceived cost of an equivalent loss. Once any of us has accumulated a modicum of capital, the incremental benefit of gaining more is typically eclipsed by the pain of having less.1 Imagine how you would respond to the proposition of a coin flip that would either double your net worth or extinguish it. Being risk averse, nearly all people would respectfully decline such a gamble. Such risk aversion is deeply ingrained in human nature. Yet many unwittingly set aside their risk aversion when the sirens of market speculation call.