Photo by Nick Benjaminsz
The Superinvestors of Graham-and-Doddsville
Editor's note: This article is an edited transcript of a talk given at Columbia University in 1984 commemorating the fiftieth anniversary of Security Analysis, written by Benjamin Graham and David L. Dodd. This specialized volume first introduced the ideas later popularized in The Intelligent Investor. Buffett's essay offers a fascinating study of how Graham's disciples have used Graham's value investing approach to realize phenomenal success in the stock market.
Before we begin this examination, I would like you to imagine a national
coin-flipping contest. Let's assume we get 225 million Americans up tomorrow
morning and we ask them all to wager a dollar. They go out in the morning
at sunrise, and they all call the flip of a coin. If they call correctly,
they win a dollar from those who called wrong. Each day the losers drop
out, and on the subsequent day the stakes build as all previous winnings
are put on the line. After ten flips on ten mornings, there will be approximately
220,000 people in the United States who have correctly called ten flips
in a row. They each will have won a little over $1,000. Now this group
will probably start getting a little puffed up about this, human nature
being what it is. They may try to be modest, but at cocktail parties they
will occasionally admit to attractive members of the opposite sex what
their technique is, and what marvelous insights they bring to the field
of flipping.
Assuming that the winners are getting the appropriate
rewards from the losers, in another ten days we will have 215 people who
have successfully called their coin flips 20 times in a row and who, by
this exercise, each have turned one dollar into a little over $1 million.
$225 million would have been lost, $225 million would have been won.
By then, this group will really lose their heads. They
will probably write books on "How I turned a Dollar into a Million
in Twenty Days Working Thirty Seconds a Morning." Worse yet, they'll
probably start jetting around the country attending seminars on efficient
coin-flipping and tackling skeptical professors with, "If it can't
be done, why are there 215 of us?"
By then some business school professor will probably
be rude enough to bring up the fact that if 225 million orangutans had
engaged in a similar exercise, the results would be much the same – 215
egotistical orangutans with 20 straight winning flips.
I would argue, however, that there are some important
differences in the examples I am going to present. For one thing, if (a)
you had taken 225 million orangutans distributed roughly as the U.S. population
is; if (b) 215 winners were left after 20 days; and if (c) you found that
40 came from a particular zoo in Omaha, you would be pretty sure you were
on to something. So you would probably go out and ask the zookeeper about
what he's feeding them, whether they had special exercises, what books
they read, and who knows what else. That is, if you found any really extraordinary
concentrations of success, you might want to see if you could identify
concentrations of unusual characteristics that might be causal factors.
Scientific inquiry naturally follows such a pattern.
If you were trying to analyze possible causes of a rare type of cancer – with,
say, 1,500 cases a year in the United States – and you found that
400 of them occurred in some little mining town in Montana, you would get
very interested in the water there, or the occupation of those afflicted,
or other variables. You know it's not random chance that 400 come from
a small area. You would not necessarily know the causal factors, but you
would know where to search.
I submit to you that there are ways of defining an
origin other than geography. In addition to geographical origins, there
can be what I call an intellectual origin. I think you will find that a
disproportionate number of successful coin-flippers in the investment world
came from a very small intellectual village that could be called Graham-and-Doddsville.
A concentration of winners that simply cannot be explained by chance can
be traced to this particular intellectual village.
Conditions could exist that would make even that concentration
unimportant. Perhaps 100 people were simply imitating the coin-flipping
call of some terribly persuasive personality. When he called heads, 100
followers automatically called that coin the same way. If the leader was
part of the 215 left at the end, the fact that 100 came from the same intellectual
origin would mean nothing. You would simply be identifying one case as
a hundred cases. Similarly, let's assume that you lived in a strongly patriarchal
society and every family in the United States conveniently consisted of
ten members. Further assume that the patriarchal culture was so strong
that, when the 225 million people went out the first day, every member
of the family identified with the father's call. Now, at the end of the
20-day period, you would have 215 winners, and you would find that they
came from only 21.5 families. Some naive types might say that this indicates
an enormous hereditary factor as an explanation of successful coin-flipping.
But, of course, it would have no significance at all because it would simply
mean that you didn't have 215 individual winners, but rather 21.5 randomly
distributed families who were winners.
In this group of successful investors that I want to
consider, there has been a common intellectual patriarch, Ben Graham. But
the children who left the house of this intellectual patriarch have called
their "flips" in very different ways. They have gone to different
places and bought and sold different stocks and companies, yet they have
had a combined record that simply cannot be explained by the fact that
they are all calling flips identically because a leader is signaling the
calls for them to make. The patriarch has merely set forth the intellectual
theory for making coin-calling decisions, but each student has decided
on his own manner of applying the theory.
