Graham & Dodd – Security Analysis
This book was published in 1934 and any serious investor should really take the time to read it; anyway shortly before his death Benjamin Graham devised a way of looking at equities that encompassed key components of valuation, financial security and growth that could be used to screen for shares. Here is a list of them below: –
- Earnings yield greater than twice the yield on AAA Corporate Bonds
- PE of less than 40% of the Peak PE
- Dividend yield at least 2/3 of the yield on AAA Corporate Bonds
- Price of less than 2/3 of tangible book value
- Price of less than 2/3 of net current asset
- Total debt less than 2/3 of tangible book value
- Current ratio of more than 2
- Total debt less than or equal to twice net current assets
- Compound earnings growth of at least 7% p.a. over 10 years
- Two or less annual earnings declines of 5% of more in the past 10 years
So armed with this lets see what we can find in the FTSE-100
Now Mr Graham accepted that times were changing, back in the 1930’s the US Stock Market was dominated with firms that had a lot when it came to Tangible Book Value – typically they were railroad or steel firms that invested heavily in physical assets. Today is a different story many firms value is in their “intangible” assets such as a brand name, probably the best example is Coca-Cola. With this in mind he suggested a focus on points 1, 3 and 6 and for good measure a Cyclically Adjusted Price Earnings (CAPE) ratio of less than 16 – the CAPE is a inflation adjusted measure of a firms earnings over 10 years and aims to iron out the peaks and troughs of a business cycle.
A total of two shares out of 100 (2%) and if we looked at the FTSE 350 a total of 16 shares appear (4.6%) – so for value investors pickings are slim; out of interest if we expand further to include the FTSE All Share, down here I feel that financial security becomes even more important.
Out of this group I know plan to look a little close at some of these to see if I can find some value (the Model Portfolio already holds Bloomsbury Publishing and Brown (N) Group).