Graham’s 10 Signs of a Bargain Stock
(A company would have to meet seven of the following ten criteria (as laid out in Security Analysis) before Graham would consider it a cheap stock:)
1. An earnings-to-price yield (the opposite of the price-earnings ratio) that is twice the current yield of an AAA (top-rated) bond. If bonds are yielding 5 percent, the earnings yield of a stock should be 10 percent. In other words, you could get 5 percent fairly safely; to take on the risk of a stock you want twice the possible reward.
2. A p-e ratio that is historically low for that stock. Specifically, it should be two-fifths of the average p-e ratio the shares had over the past five years.
3. A dividend yield of two-thirds of the AAA bond yield. (Obviously, stocks that don’t pay dividends wouldn’t qualify under this rule.)
4. A stock price that is two-thirds of the tangible book value per share.
5. A stock price that is two-thirds of the net current asset value or the net quick-liquidation value.
6. Total debt lower than tangible book value.
7. A current ratio of two or more.
8. Total debt that’s not more than net quick-liquidation value.
9. Earnings that have doubled within the past ten years.
10. Earnings that have declined no more than 5 percent in two of the past ten years.
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The individual investor, Graham counseled, should adapt these rules to his or her own situation.
• If an investor needs income, he or she should pay special attention to rules 1 through 7—especially, of course, to rule 3, the one requiring high dividends.
• An investor who wants safety along with growth might pay special attention to rules 1 through 5, along with 9 and 10.
• An investor emphasizing growth can ignore dividends, but should pay special attention to rules 9 and 10, underweighting 4, 5, and 6.
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For me, these are some new ways to look at the value proposition.
EKS |
