The first edition of The Intelligent Investor by Benjamin Graham is considered one of the classics of the securities market. The book was first published in 1949 and revised six times, with the last revised edition published in 1972. Owing to its popularity, the book is still widely read. Many successful investors readily credit Benjamin Graham's views on investing in The Intelligent Investor. John C. Bogle, who created index funds and brought down the cost of investing for the average American household, was one of the most successful investors inspired by the book, which he read in 1965 (3rd edition); he contributed the foreword to this reprint of the 1949 classic. Despite many changes in the securities market over the last several decades, the underlying idea that "sound investment principles produce generally sound results" continues to hold true.
Graham puts a simple question to the reader: who is an intelligent investor? He describes the intelligent investor as someone with knowledge and understanding, but this should be taken more as a trait of character than of the mind. Graham classifies intelligent investors into two categories: (1) the Defensive or Conservative Investor, the class most investors fall into, whose main focus should be to conserve capital by avoiding serious mistakes; and (2) the Aggressive or Enterprising Investor, who is willing to devote time and attention to selecting sound investments. Both types are intelligent investors only if they understand the underlying risk and take measures to minimize loss of capital (the margin of safety) in their undertaking.
A Defensive Investor is assumed to want freedom from bother and safety of capital. Such investors are advised to divide their portfolio between United States Savings Bonds and high-quality common stocks, with one caveat: they should avoid buying common stocks when the general market price is high, taking the market level (P/E ratio) into consideration. Their portfolio is advised to be weighted towards U.S. Savings Bonds rather than common stocks, and to take advantage of the tax-free bonds offered by states and municipalities. Since the book was written several decades ago, the concept of mutual funds was still in its infancy; they were called investment trusts and are suggested as the next best option for a defensive investor.
Aggressive Investors seek better overall results than their conservative friends. To get them, they need a clear understanding of the difference between market price and underlying value, and should base their common stock selection on the margin of safety principle. To obtain above-average results, Graham identified four areas an Aggressive Investor can focus on: (1) formula timing, which explains the central value concept; (2) the growth stock approach, buying growth stocks when they are out of favor with the market, though he warns that the growth curve flattens out over time; (3) bargain issues, buying stocks priced at least fifty percent below their appraised value; and (4) special situations, such as mergers, recapitalizations, reorganizations and liquidations, which only a small percentage of technically capable Enterprising Investors should engage in.
A major part of the book is dedicated to helping the Aggressive or Enterprising Investor form strategies and identify the opportunities that "Mr. Market" keeps offering time and again. To make Mr. Market work for you, Graham advocates a security analysis framework called the "value approach," for which he is now widely credited. Much of the common stock analysis in the book explains this value-based approach, with examples of companies in varying financial situations.
The book draws on Graham's experience in the securities market from 1914 to 1947, a roller-coaster period for investors, with two world wars and the Great Depression in between. Fortunes were made and lost, but most lay investors lost their savings and became averse to the securities market. The U.S. government took an important step to protect the interests of the general public by setting up the Securities and Exchange Commission (SEC) in 1934. Graham points out some of the SEC's limitations and how they affect minority investors. With the Great Depression still in public memory, he advocates selecting securities by focusing on the quality of management, which can be judged by analyzing management's past actions and whether they served a few "insiders" or the "outsiders" (general investors). He follows this with always having a margin of safety before buying any security, and avoiding low-quality stocks in favorable business conditions. Graham draws a logical connection between the margin of safety and the principle of diversification, which together reduce the chance of capital loss and improve the chance of making a profit.
Investment is most intelligent when it is most businesslike. An investor can achieve this by following four principles: (1) know your business; (2) do not let anyone else run your business; (3) enter a business only if the profit estimate is based on arithmetic, not optimism; and (4) have the courage to act on your knowledge. Looked at closely, the four principles share an underlying tone: Graham asks the reader to view common stocks from an owner's point of view, not to speculate (and face losses in the market). Securities are to be held for the long term. Profit should not come from each other in the stock market, but from businesses that earn interest and dividends for their owners over time. The intelligent investor is encouraged to participate actively in management decisions and not to become a yes-man for every decision management takes.
Many of the security analysis methods in the book may not be relevant today, as the dominant industries of the time were industrials and public utilities such as railroads. But the fundamental principles of investing the book advocates make it part of the classic investment literature for anyone interested in understanding the evolution of the securities markets.