What is this value investing book called 52-week Low Formula about?

The book cover puts it this way: A contrarian strategy that lowers risk, beats the market, and overcomes human emotion.

Author Luke Wiley said in the book: “It is about buying the “right business” at its 52-week low versus buying “any business” at its 52-week low. if it is the wrong business that operates in an industry with poor economics (e.g., the steel industry), then there is a high probability that that company will continue to reset its 52-week low and you could permanently lose your investment.”

The key words to remember are “buying the right business at its 52-week low“.

There are five filters in the 52-week low formula:

Filter 1: Competitive advantage. Studying industries that are known to have good economics, high barriers to entry, customer loyalty, and limited alternatives.

Filter 2: Free cash flow yield: setting a requirement that any company worth investing inmust provide a cash flow multiple over the risk-free rate. This means buying a business with a margin of safety.

Filter 3: Reurn on invested capital: looking at industries and companies that not only generate returns on capital over their cost of capital currently but have a knack for generating returns on capital in excess of their cost of capital over 10 years.

Filter 4: Long-term debt to free cash flow ratio: be aware that leverage can magnify business results for the good and for the bad.

Filter 5: The 52-week low formula: identifying companies trading below their historic and recent high prices. Buying low and selling high is Economics 101 thinking.

This book by wealth manager Luke Wiley is an easy read backed by many case studies and worked examples. It is strongly recommended as an addition to the book shelf of the value investor.

In his book, The Intelligent Investor, under the chapter “Stock Selection for the Enterprising Investor”, the father of value investing talked about net-current-asset or bargain issues. It was from this Graham-Newman investment method that the net-net value investing strategy got its name. (Graham-Newman was a company launched by Benjamin Graham, the father of value investing, in January 1936 and dissolved in 1956 when he retired).

Before going into what a net-net stock is –  which involves buying a stock at less than its liquidation value – mention must be made that net-current-asset or bargain issues in the chapter were for the enterprising investor.

Benjamin Graham made a basic distinction betweeen two kinds of investors – the “defensive” investor and the “enterprising” investor. The defensive (or passive) investor places emphasis on avoiding serious mistakes or losses. The enterprising (or active, or aggressive) investor is willing to devote time and care to the selection of securities that are both sound and more attractive than the average.

There are two criteria in the net-net stock strategy.

Criterion 1: To acquire as many issues as possible, costing less than their book value in terms of net-current-assets, meaning ignoring or not giving value to the plant account and other assets.

Criterion 2: Making the purchases of the net-net stock typically at two-thirds or less of the stripped down asset value.

Benjamin Graham said: “In most cases, we carried a wide diversification here – at least 100 different issues.”

In Security Analysis by Graham and Dodd’s, the authors said “we deduct all obligations and preferred stock from the working capital to determine the balance of the common”.

Thus, net current asset value (NCAV) is the value of the current assets minus total liabilities, including preferred shares. Because of this, proponents call it buying a stock below the liquidation value.

The formula is:

Net-net stock price = 2/3[{Current assets – (Total liabilities + Preferred Stock)/Outstanding number of shares}]

That is, net-net stock price = 2/3(NCAV/outstanding shares) = 2/3 x NCAVPS.

Disclaimer: While this site is about value investing and is for those with similar interests, no material of any sort in this site should be construed as advice for  investment decisions. While the site is about legendary investors, in particular Warren Buffett, it is not an official representation of any of them or of any third-party sites. Also, Buffettpedia is a participant in the Amazon Services LLC Associates Program, an affiliate advertising program designed to provide a means for sites to earn advertising fees by advertising and linking to Amazon.com.

In value investing, a term often cited is the Graham Number.

The term is named after Benjamim Graham (1894-1976), the father of value investor and the author of The Intelligent Investor, from which the Graham Number came about.

In the chapter on Stock Selection for the Defensive Investor, he listed seven quality and quantity criteria suggested for the selection of specific common stocks.

The seven suggested criteria are:

1. Adequate size of the enterpise (in an accompanying commentary on this, veteran journalist Jason Zweig said, “Nowadays, “to exclude small companies,” most defensive investors should steer clear of stocks with a total market value of less than $2 billion.” He added that “in early 2003, that still left you with 437 of the companies in the Standard & Poor’s 500-stock index to choose from.”)
2. A sufficiently strong financial condition. “For industrial companies, current assets should be at least twice current liabilities.” In other words at least a 2-to-1 current ratio. “Also, long-term debt should not exceed the net current assets (or “working capital”). For public utilities, the debt should not exceed twice the stock equity (at book value).
3. Earnings stability: Some earnings for the stock in each of the past 10 years..
4. Dividend record: Continued dividends for at least the past 20 years.
5. Earnings growth: Ten-year growth of at least one-third in per-share earnings, using three-year averages at the beginning and the end.
6. Moderate price/earnings ratio: Current price should not be more than 15 times average earnings of the past three years.
7. Moderate ratio of price to assets: Current price of stock should be no more than 1.5 times the book value (he mentioned this as “net asset value” in an earlier chapter) last reported.

Let’s zoom in on criteria (6) and (7) above as these are the two items from which Graham Number is derived:

Moderate ratio of price to assets: Current price of stock should be no more than 1.5 times the book value (he mentioned this as “net asset value” in an earlier chapter) last reported. “However,’” said Benjamin Graham, “a multiplifier of earnings below 15 could justify a corresponindly higher multiplier of assets.”

“As a rule of thumb we suggest that the product of the multiplier times the ratio of price to book value should not exceed 22.5 times.”

Benjamin Graham elaborates: “This figure of (22.5 times) corresponds to 15 times earnings and one-and-a-half times book value. It would admit an issue selling at only 9 times earnings and 2.5 times asset value etc.”

P/S Crtiteria (6) and (7) should therefore be read in conjunction. When book value exceeds 1.5 times, it has to be compensated by a fall in the price/earnings ratio of 15. The product of book value and the pice-earnings ratio should not exceed 22.5 times).

Now comes the calculation part. What is Graham number?

Market price of stock(P)/Earnings per share (EPS) x Market price of stock (P)/Book value per share (BVPS) = 22.5

Note: EPS must be average of the past three years.

P/EPS x P/BVPS = 22.5

Thus PxP=22.5xEPSxBVPS

P=√(22.5xEPSxBVPS)

P = Graham Number = square root of (22.5 x EPS x BVPS)

Note: EPS* = Net Income/shares outstanding

*average for the past three years;

And BVPS = Shareholders’ equity/shares outstanding.

The Graham Number is used as a test to identify stocks that are currently selling for a good price.

Graham Number example:

EPS average of past three years = $2.50

BVPS = $10.

Graham Number = √(22.5xEPSxBVPS) = √(22.5xEPSxBVPS) = √562.5 = $23.72.

Going by this Graham Number, any stock price below this example of $23.72 is an indication of a buy for a value investor.

Caution: Don’t ignore criteria (1) to (5).

Disclaimer: While this site is about value investing and is for those with similar interests, no material of any sort in this site should be construed as advice for  investment decisions. While the site is about legendary investors, in particular Warren Buffett, it is not an official representation of any of them or of any third-party sites. Also, Buffettpedia is a participant in the Amazon Services LLC Associates Program, an affiliate advertising program designed to provide a means for sites to earn advertising fees by advertising and linking to Amazon.com.

Revealing this in his FY2022 letter to shareholders dated February 25, 2023, Warren Buffett the legendary investor explained: “The math isn’t complicated: When the share count goes down, your interest in our many businesses goes up. Every small bit helps if repurchases are made at value-accretive prices.”

The repurchases need to be at value-accretive prices. Why?

Warren Buffett put it this way: “Just as surely, when a company overpays for repurchases, the continuing shareholders lose. At such times, gains flow only to the selling shareholders and to the friendly, but expensive, investment banker who recommended the foolish purchases.

“Gains from value-accretive repurchases, it should be emphasized, benefit all owners – in
every respect.”

The sage of Omaha said: “When you are told that all repurchases are harmful to shareholders or to the country, or particularly beneficial to CEOs, you are listening to either an economic illiterate or a
silver-tongued demagogue (characters that are not mutually exclusive).”

“In August 1994 – yes, 1994 – Berkshire completed its seven-year purchase of the 400
million shares of Coca-Cola we now own. The total cost was $1.3 billion – then a very meaningful
sum at Berkshire,” said Warren Buffett, chairman of Berkshire Hathaway, the best known student of value investor founder Benjamin Graham.

“The cash dividend we received from Coke in 1994 was $75 million. By 2022, the dividend had increased to $704 million,” said Warren Buffett. “Growth occurred every year, just as certain as birthdays. All Charlie (Munger) and I were required to do was cash Coke’s quarterly dividend checks. We expect that those checks are highly likely to grow.”

Warren Buffett, the sage of Omaha, went on to say that American Express is much the same story. “Berkshire’s purchases of Amex were essentially completed in 1995 and, coincidentally, also cost $1.3 billion. Annual dividends received from this investment have grown from $41 million to $302 million. Those checks, too, seem highly likely to increase.

“These dividend gains, though pleasing, are far from spectacular. But they bring with them
important gains in stock prices. At yearend, our Coke investment was valued at $25 billion while
Amex was recorded at $22 billion. Each holding now accounts for roughly 5% of Berkshire’s net
worth, akin to its weighting long ago.”

So what is the lesson for investors?

“The weeds wither away in significance as the flowers bloom. Over time, it takes just a few winners to work wonders. And, yes, it helps to start early and live into your 90s as well,” said Warren Buffett.

Berkshire Hathaway vice-chairman Charlie Munger died on November 28, 2023, just 33 days before his 100th birthday.

Charlie Munger, a lawyer by training, had been Warren Buffett’s right-hand man at Berkshire Hathaway.

Bloomberg called Mr Charlie Munger “the alter ego, sidekick and foil to billionaire investor Warren Buffett for almost 60 years”. Together, “they transformed Berkshire Hathaway from a failing textile maker into an empire”.

“In reality, Charlie was the “architect” of the present Berkshire, and I acted as the “general contractor” to carry out the day-by-day construction of his vision,” Warren Buffett said in a tribute to him in his FY2023 letter dated February 24, 2024 to Berkshire Hathaway shareholders.

“Charlie never sought to take credit for his role as creator but instead let me take the bows and receive the accolades. In a way his relationship with me was part
older brother, part loving father,” Warren Buffett added.

“Even when he knew he was right, he gave me the reins, and when I blundered he never – never –reminded me of my mistake.

“In the physical world, great buildings are linked to their architect while those
who had poured the concrete or installed the windows are soon forgotten. Berkshire
has become a great company. Though I have long been in charge of the construction
crew; Charlie should forever be credited with being the architect.”

So the global stock markets, led by the US, are plunging.

On August 1 and 2, 2024, Wall Street took a big hit. On August 2 (Friday itself), the Dow Jones Industrial Average dived some 610 points, or 1.5 per cent to end at 39,737.26. This was after an intra-day fall of as many as 989 points. The Nasdaq plummeted some 417 points or 2.4 per cent to 16,776.16 and the S&P 500 plunged over 100 points or 1.8 per cent to 5,346.56.

So what was behind the bloodbath, which also led to a rout on Asian markets?

Two factors were widely cited: weaker-than-expected July jobs report and the fear that tech stocks had run far ahead of fundamentals.

Is this time to panic? Not for the value investors who have done their homework whether in buying or selling.

Does the plunge remind you of Mr Market?

Legendary investor Warren Buffett,  the Sage of Omaha and the chairman of Berkshire Hathaway, once called Mr Market the “Drunken Psycho”. Aspiring value investors need to know who Mr Market is to understand why Warren Bufftett, the best known student of Benjamin Graham, called him a Drunken Psycho. Warren Buffett also called Mr Market the poor fellow with incurable emotional problems. The term Mr Market was coined by Benjamin Graham,  the father of value investing and the author of The Intelligent Investor.

One takeaway lesson from Benjamin Graham in The Intelligent Investor is: “Basically, price fluctuations have only one significant meaning for the true investor. They provide him with an opportunity to buy wisely when prices fall sharply and to sell wisely when they advance a great deal. At other times he would be better off if he forgets about the stock market and pays attention to his dividend returns and to the operating results of his companies.”

Warren Buffett once said he is “85% (Benjamin) Graham and 15% (Philip) Fisher”. American stock investor Philip Arthur Fisher (September 8, 1907 – March 11, 2004) was best known as the author of the investment guide book known as Common Stocks and Uncommon Profits. The book has the reputation of staying in print since it first published in 1958.

Here is what Philip Fisher once said in “Don’t be afraid of buying on a war scare”. In the current context, we are talking about the bear charge in global stock markets.

“War is always bearish on money. To sell stock at the threatened or actual outbreak of hostilities so as to get into cash is extreme financial lunacy. Actually just the opposite should be done,”said Philip Fisher.

“If an investor has about decided to buy a particular common stock and the arrival of a full-blown war scare starts knocking down the price, he should ignore the scare psychology of the moment and definitely begin buying. This is the time when having surplus cash for investment becomes least, not most, desirable…

“If war actually breaks out, the price would undoubtedly go still lower, perhaps a lot lower. Therefore the thing to do is to buy but buy slowly and at a scale down on just a threat of war. If war occurs, then increase the tempo of buying significantly. Just be sure to buy into companies with products or services the demand for which will continue in wartime, or which can convert their facilities to wartime operations.”

Here is what value investor Warren Buffett has been saying consistently but in different ways:

“A climate of fear is your friend when investing; a  euphoric world is your enemy.”

In his FY2023 letter to Berkshire Hathaway shareholders, Warren Buffett said: “Though the stock market is massively larger than it was in our early years, today’s active participants are neither more emotionally stable nor better taught than when I was in school.

“For whatever reasons, markets now exhibit far more casino-like behavior than they did when I was young. The casino now resides in many homes and daily tempts the occupants.”

“If a person sets out to make profits from security purchases and sales, he is embarking on a business venture of his own, which must be run in accordance with accepted business principles if it is to have a chance of success,” said Benjamin Graham, the father of value investing.

So what are the four sound business principles?

(a) “Know what you are doing – know your business “

(b) “Do not let anyone else run your business, unless (1) you can supervise his performance with adequate care and comprehension or (2) you have unusually strong reasons for placing implicit confidence in his integrity and ability” For the investor, this rule should determine the conditions under which he will permit someone else to decide what is done with his money.

(c) “Do not enter upon an operation – that is, manufacturing or trading in an item – unless a reliable calculation shows that it has a fair chance to yield a reasonable profit.”

(d) “Have the courage of your knowledge and experience. If you have formed a conclusion from the facts and if you know your judgment is sound, act on it – even though others may hesitate or differ.” In the world of securities, courage becomes the supreme virtue after adequate knowledge and a tested judgment are at hand.

7 Secrets to Investing Like Warren Buffett was coauthored by Mary Buffett and Sean Seah. Mary Buffett is the former daughter-in-law of legendary investor Warren Buffett, the chairman of Berkshire Hathaway. Mary Buffet has coauthored many books with David Clark, the first being Buffettology. Sean Seah was born, educated and lives in Singapore. A strong believer in value investing, Sean Seah is best known as an educator and entrepreneur in the investment education field.

Both Mary Buffett and Sean Seah share the same value investment philosophy and said they have come together to write 7 Secrets to Investment Like Warren Buffett to explain Warren Buffett’s investment techniques and philosophy to new investors.

The seven secrets to investing like Warren Buffett:

Secret 1: The power of habits. Fast results seldom work. Warren Buffett once said: “No matter how great the talent or efforts, some things just take time. You can’t produce a baby in one month by getting nine women pregnant.”

The key is to be disciplined and persistent.

Secret 2: The power of value investing. It is crucial to learn value investing, which advocates buying good and profitable businesses at sensible prices.

Secret 3: Generating stock ideas. Finding businesses in your circle of competence; list of financial websites to do research; best companies; best value investors.

Secret 4: Economic moats. Identifying economic moats (five questions to ask).

Secret 5: Language of business. Financial statements and ratios explained.

Secret 6: Valuation. Benjamin Graham’s Net-Net. Margin of safety. Price to book value. What is a good PE ratio? Dividend yield. Growth formula.

Secret 7: Portfolio management. Portfolio management rules. The mindset of a successful investor.

For beginning investors, 7 Secrets to Investing Like Warren Buffett is another book for your bookshelf.

If you have been reading legendary investor Warren Buffett’s value investment philosophy and wonder how to put two and two together, one recommended book for reading is “Warren Buffett and the Interpretation of Financial Statements” by Mary Buffett and David Clark. Written in simple and easy to understand language, the book guides you through the three financial statements of Income Statement, Balance Sheet and Cash Flow. More important, it draws attention to items that matter and explain, with examples, how Warren Buffett picks businesses and stocks with long-term competitive, durable and consistent advantage.

In the words of Mary Buffett, the book is meant to be an “easy-to-use guide to read a company’s financial statement, using the unique set of tools Warren (Buffett) had developed for uncovering these wonderfully profitable businesses”.

“A book that not only would explain what a balance sheet and income statement are, but would point out what investors should look for if, like Warren (Buffett), they are searching for a company that possesses a long-term competitive advantage,” says Mary Buffett.

The purpose of Warren Buffett and the Interpretation of Financial Statements is twofold:

(1) How to identify an exceptional company with a durable competitive advantage;

(2) How to value a company with a durable competitive advantage.

Why is understanding and interpreting financial statements vital in value investing? In the words of Warren Buffett, as quoted in the book: “You have to understand accounting and you have to understand the nuances of accounting. It’s the language of business and it’s an imperfect language, but unless you are willing to put in the effort to learn accounting – how to read and interpret financial statements – you really shouldn’t select stocks yourself.”