Some of us might not even have heard of the name Charlie Munger, but everyone is aware of the investment guru Warren Buffet. Munger is Buffett’s right hand man and together they have experienced unparalleled success, building an investment firm with more than $880 billion in assets. The investment principle that brought them this remarkable success is known as value investing, a concept originally developed by Benjamin Graham. But why should young investors in their mid-twenties follow a long-term-oriented value investing strategy?
When I asked myself that question, being a 22-year-old International Business Graduate and Morningstar Intern, I first thought of incredible success stories like GameStop or Tesla and my willingness to take risks as my retirement is 45 years ahead. At the height of the Gamestop furore in January this year, its share price rocketed 2,500%, which is very appealing for any investor.
But at the same time, I started to consider the unique power of a sustainable long-term investment strategy which can be visualised in the following simplified example: If I would invest $5,000 today at the 9.18% annualised return of the MSCI World Index of the last 50 years, I would have more than $260,000 at my retirement in 45 years, according to Morningstar Direct data. This represents over 52 times my initial investment. It’s no wonder Albert Einstein once said: “Compound interest is the eighth wonder of the world. He who understands it, earns it, he who doesn’t, pays it.”
With this in mind, I read “Charlie Munger: the complete investor.” It explains that as a value investor, you focus on the long-term intrinsic value of a stock instead of trying to anticipate how others might evaluate the stock in the future, which is the case for example for today’s current meme stocks which are so on trend. The methodology of the Graham value investing strategy is simple but not easy and follows four principles:
1. Buy Shares Like You're Buying the Business:
Approach any valuation as if you were buying the firm in a private transaction. As a Graham Value Investor, you try to understand the value of the asset and if you do not fully comprehend the business model of the company, you cannot understand the value of the security, so it makes sense to step away from the investment.
2. Create a Marging of Safety by Buying at a Discount:
To defend your investment from human error, misfortune, or extreme volatility, you should only buy a stock at a market price below its intrinsic value (The intrinsic value indicates the present value of future cash flows), which is called the margin of safety. Purchasing at a discount will increase your odds of success.
3. Make “Mr. Market” Your Servant, not Your Master:
Mr. Market is a metaphor for the capital market with its short-term, volatile character. In the depressed phase, it will sometimes sell securities at a bargain price and in the euphoric phase, it will exaggerate what a stock is worth. If the fundamental value of a firm remains the same, the short-term views of Mr. Market can be tolerated as they will be corrected in the long run.
4. Be Rational, Objective, and Dispassionate:
It might be easy to underestimate how important rationality is to a Graham value investor, but it is our main protection against making emotional errors and thereby significantly contributes to the investor’s success.
As a value investor, suitable investment options appear rarely and you need to wait patiently for them – and you need to be ready to aggressively invest when an opportunity does occur. The Graham value investing system aims to reduce the downside risk of an investment and therefore tends to outperform the market most in a bearish stock market by giving up some upside in a bull market.
Easier Said Than Done
One needs to keep in mind that a value investing strategy requires a lot of time and work and not everyone is able or willing to invest in such a way. These investors should keep in mind a suggestion from Seth Klarman: ”If you can’t beat the market, be the market.” This is a legit decision and means investing in ETFs and index funds, which simply aim to copy the performance of a given market
In a nutshell, Graham value investing is a meaningful investment strategy that benefits from the power of compounding and facilitates long-term profits. Including its comparably low risk level and potential to outperform the market, any investor should consider this methodology, not least Generation Z and Millennials – even if meme stocks are what everyone is talking about right now.
