Known as the father of value investing, Benjamin Graham coached some star investors, including Warren Buffett, Walter Schloss and Irving Kahn. In his work, he laid emphasis on the concept of 'intrinsic value' of stocks. According to him, investors should buy those stocks that are below their intrinsic value. It will ensure a 'margin of safety' - the basic difference between the intrinsic value and market price of a stock.
Intrinsic value sheds light on the real worth of a company. Graham used to dig deep into companies and analyse them thoroughly. And he used to invest only in those companies that maintained a sufficient margin of safety. "An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return. Operations not meeting these requirements are speculative", he wrote.
In this article, we have tried to replicate his approach by using some quantitative filters and observed the market condition three and five years ago.
And we have some interesting observations.
There are only a handful of companies to choose from, as the number of companies on our list has been declining constantly over the last five years. There can be two reasons behind this decline - either most of the companies have grown to an extent (in terms of market capitalisation) that they no longer trade under their intrinsic value or stocks have become expensive, owing to a rise in markets over the years.
Our list is mainly dominated by mid- and small-cap stocks. However, in 2014, we identified two large-cap stocks to choose from, Hindustan Zinc Ltd and NMDC Ltd. In addition, Nocil Ltd and Shemaroo Entertainment Ltd made it to our list in 2016 and again in 2018, signifying their ability to add constant value, while charting the growth path.
To put it in a nutshell, Ben Graham's vision has resulted in good returns for investors over the years, as is evident from the tables below.
Filters Applied:
- Market cap above Rs 500 crore
- Earnings yield (using TTM operating income, excluding other income) greater than 10.5%
- Debt to equity between zero to one
- Current ratio greater than two
- Total debt less than two times net current assets
- Five-year earnings growth of at least 10% CAGR
- Current and average five-year ROE of more than 12%
Disclosure: The intent of the article is not to recommend any specific stocks. If you wish to invest in any of the above-mentioned securities, please do thorough research.
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