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    Graham - Bankers Are Investment Counselors

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    kishore13

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    of 13
    THE BANKER AS ‘AN INVESTMENT COUNSELOR You bankers are experts on the care and multiplication of money, and therefore in the minds of che public you are eminenely fined to advise on ull mavters. relating co investments Your investment activities sre very broad. ‘They include not only invest: BENJAMIN GRAHAM head "Secu age Deaton New ore “ions Wangs ts tas ol ment for your own account, —~ an Beoero"seimito, tal rne Tet accivity’ which nowadays apples © more than helf of the total resources ‘of bens — but ako investment for the benefit of individuals io the form of trust funds pension funds, and ako a considerable emoun: of formal or informal advice to individuals who come to you for counsel and guidance xs with you the scope and limitations of your for the benefit of individuals [My assignment today is 10 discus activities as counselors on investment ‘This question may bese be discussed under four headings, as follows Firse: How do the investment policies appropriate for individual investors differ from those appropriate for the bank's own portfolio? Second: How does the financial position and the financial comperence of the individual investor affect she poliey o be chosen by ot for him? ers go in endeavoring to select either (1) the ‘Third: How far should bank juals; or (2) the most areracrive bese time of price level for investment for individ securities for hem to purchase? rave thought through and adopeed a standard for the great run of unsophisticated nat should then the bankers pe of security Fourth: Assuming thee bankers pattern of investmenc policy appropriate nvestors — which I shall call "defensive investors” — w ltstude be towaed the less conventional and the more "aggressive investment? +44 IE BANKER AS INVESTMENT COUNSELOR kers are experts on the care iplication of money, and in the minds of the public rninently fited to advise on ts relating to investments ey include not only invest- ‘hich owadays applies. 0 \ half of the sotal resources ividuals in the foem of trust of formal or informal advice cope and limitations of your of individuels ceadings, as follows: ine for individual investors allo? financial competence of che for him? ing co select either (1) the for (2) the most acractive ough and adopted 2 standard eat tun of unsophisticated that should thea the bankers aggresive” gype of security ‘The fact thae this audience represents banks of all shapes and sizes, great and small, raised a preliminary problem in my mind. Query: Could my discussion of investment problems be homogencous enoogh co meer the needs both of smaller banks and the very large ones here in New York City? This question was answered for me by reading an article io the last issue of “The Exchange” (a magazine pub: lished by the New York Stock Exchange) written by 2 gentleman I know is here today, Ms, William S. Staples, Vice-President of the Exchange National Bank of (Olean, N.Y. The title of his paper was, "The Country Banker Looks at Stocks," a subject not completely detached from my own subjece today. Ie pointed ous, «o my ‘gratification, that che problems and the actitudes of the country banker, in relation to individual iovestments, are prety much the same as those of the city banker. My first question was: How do the investmene policies appropriate for the individual today differ from those appropriate for a bank's portfolio? There are similarities and there are differences. A generation ago, the similarities were more imporeant chan che differences. Today, I think it is the other way around. Back in 1914, when I entered Wall Street wih « frm of "bankers and brokers", the accepted investment policy for both banks and conservative individuals was precy mich the same,—namely, 0 put the bulk of one’s money in corporate bonds, with a relatively small admixeure of preferred stocks and a relatively small com- ‘ponent of stace or municipal bonds. ‘Today, che similaricy, 1 chink, is mainly in che area of tax-free securities. On the whole the advancages of caxcfree securicies co the individual investor and to the bank are rather similar, and in both cases they ate nor thoroughly appreciated. Mr. Wellington made a cautious reference to that fact in his addeess, and Ds. Bogen last year made & similar reference. When you make your calculations as ¢0 the net return, after taxes, for investments by banks and also by a large percentage of in- ividaal investors you will see chae «x-free securities, on the whole, offer a much more aetractive net return than other high-grade investments will provide. (If J semember rightly, lase year Mr. Shapiro gave some figures on thar subject that were rather startling.) ‘The next area of investment which is similar to both is chat of U. S. Govern ment securities. The beaks are predominaoily invested in government bonds, and I should say chae the bulk of individuals, by number if nor by amoune also pre- dominantly invest in government bonds. The policy is a proper one in both cases, bur there is « fondamental difference in the type of security purchased If you are to advise che typical small investor on the subject of government bonds, you must conclude that there is nothing chac will compare with the much admired and much maligned Series E Bond, che campaign for which has just been started again, Tes combination of yield and safety cannot be matched elsewhere in the field of fixed-income investment; incidentally, although the E Bonds ostensibly o noe provide # current income, this objection can be overcome by cashing in a fraction of one's series E Bonds semi-annually dusing heir cen-year life, In this vray you can get straight iocome reeoen which is never less chan 219% and which tends up wich an average of 2.80% on the Series E Bonds on «semiannual income basis. ‘The next similariey is of a negative sort, and chat Ties in che avoidance of cor- porate bonds and preferred stocks for both bunks aos individuals, with very few exceptions. This, of course, is a rather strange statement, and yet I believe that the Thets of the case completely support that stand, I cbink Dr. Bogen last year made the poine rather effectively in this seminar, that at the ruling differentials in yields between government securities (and patticuarly cax-free securities) and corporate jeoues, there is no “percentage,” if T thay use chat word, in the selection of high- srade corporate securities by banks There i, similarly, no advantage in their selec tion by individuals. Where they apparently are gravitating ro 2 great extent, and should gravieate almost one hundred percent, is to the life-insurance compa which have a very special yield problem and a special tax position ‘The bunks are nos entirely ia sgreemenc with this viewpoint. Whether they have reasoned the matcet out differently, or whether it is because they are accus- tomed to older views that ate no longer relevant, is a matter for you, yourselves, to decide, Bue if you take the available figures for che investment of common trust funds by banks, — which indicate how they actually are administering individual pporfolios — you will see a tendency 10 play che secority (pes right across the ‘Board, and co place approximately a thitd of the money in government bonds, some: ‘what under 2 third in preferced stocks and corporate bonds, and snother third, or thereabouts, in common stocks, I chink that is « decision based more upon conven ence than upon any logical reasoning applied ro the foc. In this connection permit me to make 2 special point with respect to preferred stocks. If you apply today’s thinking — nor the chinking of chicty years ago — 0 preferred stocks, you will se thee they represent a special form of “cax-free issue which is meaningless co individuals and very meaningful «© corporace investors [As you know, corporate investors will pay (ax on only 15% of the income from preferred stocks, whereas individuals will pay on 1007% of thar income. Now that fact, when taken in relation eo the high rates of tax applicable today, means that, ia logic, good corporate preferred stocks should be boughs only by corporations that can gee the very large tax benefit therefrom; end they should be avoided, for that very ceason, by individuals, who cannot do so ‘There is « close anslogy here with tax-free bond issues. It evidently makes ro seuse at all for an educational or charitable organization eo buy «ax-free issues from which it obtains no tax-benefit; as compared with other securities with com siderably moe yield and equal safety, for which other people would pay a v heavy eax burden, The main difference between the investment policies for banks and for in- dividuals lies, as you all know, in the area of common stock investment. A geners +46" their cen-year life, In this + ess than 245% and which ds on a semi-annal income lies in the avoidance of cor individuals, with very few «, and yer I believe thar che Dr, Bogen fase year made the uling differentials in yields ee securities) and corporace 1d, in the selection of high: no advantage in their selec ating co 4 great extent, and xe life-insurance companies, tax position is viewpoint, Whether chey tis because they are accus- acter for you, yourselves, favesement of common trust tre administering individeal arity «ypes right across che in government bonds, some- sonds, and another third, oF 10 based more upon conven: ine with respect to preferred ng of thirty years ago — to cial form of "eax-free issue" aful 0 corporate investors 7 15% of the income from 6 of thar income, Now that plicable today, means that 3 only by corporations that should be avoided, for that 1 issues, Te evidently makes tation 1 buy roe-free issues 1h other secutiies with con. + people would pay a very icies for banks and for in stock investment, A genera tion ago, common stock investment was noc considered suitable for conservative people, the kind whom banks would advise, Today, the atcicude has changed very much, Incidentally, it has changed not only with respect to individuals, bur for various types of institutions other chan commercial banks. You know, of course, thar in New York State restricted crusts are now petmitted (0 invest up to 35% ‘of che total fund in common stocks. You know that life insurance companies ‘now permitted to invest a small amount — I chink i is 2%% — of their eesources in comaon stocks, Thece is & bill pending ro permic savings banks co make moderace investment in common stocks. Pension funds ate now very definitely committed 10 the common stock approach in investment. The figures are not available, buc 1 am sure that equities now repre- sent a subscantial part of the current purchases. Finslly, the mutual-fund move: ‘ment, which has been gathering momentum in recent years isa kind of institution: alization of the idea of common stock investment for the benefit of individuals ‘Thus ir is quite clene thar common stocks are now definitely established as sn clement in conservative javestment for individual investors It is worth taking some time, T think, to examine into the pros end cons of common stock iovestment, in otder that you, a5 bankers and advisors, might have a sound aad balanced approach co this very important question ‘There are great distdvantages in common stock investment. They ate found, ‘mainly, I would say in the following three ares: First: Common stock investment often creates common stock speculation and speculative losses Second: There is a tendency for the ypical common stock investor co be sold low-grade securities ar excessive prices ‘Third: Thete is a considerable tendency for common stock investors «@ do the greatce part of their buying, both of “good” and “bad” securities, at high levels of the marker, They are equally inclined co do the greater parc of their selling at low levels of the market, a procedure which is oot conducive 10 successful results. |As against these drawbacks, we know that, basically, common stocks have a umber of important advantages as investmenc media. Over the yeats, chey have given substantially higher iacome seturn than bonds; they have shown a secular growth in market value which has been imporcant, in itself, and which is par ticularly imporsant in the minds of people today because thar growth in market value is considered ro be an offset co the impact of inflation. The figures, when viewed over a fifty-year period, show thar the rise in the level of stock prices as a whole bas, somewhat irregularly buc nonetheless definiely, paralleled che sise in the price level of commodities and the fall in the purchasing power of the dolla. I would like you to pay special note ro this fact: The disadvancages which 1 f listed for common stock iovestment are all psychological in eheie origin, while the advantages which I have listed are all economic and objective in their nature. In other words, if investors weren't people, common stock investment would be a 100% sound proposition. Unforwanacely, investors are people, and they have a ‘great tendency to do the wzong thing when they ener the field of common stocks Lec us point out that on che whole, the public's attcade coward inflation today is itself more psychological chan objective. People are talking about inflation as if i were something that had just developed with Korea in June, 1950. 1 wonder how ‘many of you here are familiar with the data showing how much inflation we had in the frst cwenty-fve yeats of this cencury, as compared with how much inflation ‘we have had from 1925 up to date? The figures may startle those of you who haven't eed at chem, Lec me read them: (On wholesale prices: From 1900 co 1925, the rise was 841496. From 1925 10 Jone 1951 (che lase figures I have) including World Wer Il and Korea, che rise was 75Y4% On the cost of living, ox the so-called consumer price index: From 1900 10 1925, the rise was 1226. From 1925 ro June 1951, the rise wes 47% ‘These indexes may not be entirely accurate bur dhey can noc be so far off as to discort whae has actually happened. We experienced more inflation from 1900 0 1925 than in the period of 1925 to 1950. Inflacion for us then is nothing sew. We have lived with ic since the carn of che century, as a long-term trend, Nevertheless in the same period of time we have been subjected to the most serious deflationary influences that we have seen in the entire history of this country. That of course was the deflation chat starced in 1929. ‘What that contradiction means is chat while inflation is real, it is something thar has to be viewed wich caze; it has to be viewed warily, and pasticularly in 2 hhiscorical perspective, You bankers aze the people who can do this, I am sure. T do rot believe you are going to be carried away by the tide of feeling and irresponsible conversation on the subject. [My conclusion on the pros and cons of common stocks bas to be expressed in this form: Ina sense, the argument for common stock investment is too good. Ie cends to make for over-confidence in common stocks ac the wrong time. That is to ssy, i ‘ives too great theoretical support to whac is almost certsin 10 end up as excesses of speculation ‘The situation today may nor be +00 different from that in 1924-1926, when wwe had the development of 1 philosophy of common stock investment which was cetirely sound in its theoretical basis. That cheory was sec forth in sm excellent small book by Edgar Lawzeace Smith, called, "Common Stocks as Long Term In- 48° fod objective in their nature. tock iovestment would be a ve people, and they have a the field of common scocks. tide toward inflation coday. talking about inflacion as if in June, 1990. 1 wonder how how much inflation we had ‘ed with how much inflation dle those of you who haven't was 841496, From 1925 «0 War Il and Korea, the rise price index: From 1900 co the rise was 47%. hey can nor be so far off as more inflation from 1900 lived with i since the curn the same period of time we Juences that we have seen in the deflation char started in ation is real, ie is something warily, and pasticularly in @ ‘can do this, Jam sure. I do + of feeling and ieresponsible stocks has +0 be expressed in stinent i8 100 good, It tends rong time. That is to say, it certain to end up as excesses rm thac in 1924-1926, when stock investment which was as set forth in an excellent aa Stocks as Long Term In- vestments,” an original edition of which I treasure in my library. There was nothing. wrong with that book except that too many people believed in it and didn't read it carefully. The result was that the same common stocks which were sound investments in 1924 ended up by becoming dangerously unsound speculations in 1928 and 1929. ‘You bankers, I urge, should accepr the theory of common stocks as 2 medium. of investment; but accept it warily, nor as 8 Gospel, bur as 2 business proposition subject to continuous business rest. Please do nor forget that as the common stock level advances, the advantages ‘of common stocks appear to be more aractive and che basic need for owning, chem becomes more persuasive in everybody's easoning. Yer in fact, common stocks un- doubredly become riskier as the price advances, and thus the risk increases as the ‘widespread acceptance of common stock develops. With thae qualified endorsement of the commen stock theory, T would like co 4g0 back «0 the basic question of individual investment policy. This seems to me to come down to the rather simple formula of dividing the fund ino rwo perhaps more ot less equal categories: The first consists of tax-free bonds or government bonds — government bonds being primarily US. Savings Bonds; the second consists of common stacks, which are to be bought with some emphasis on the ‘endeavor not to pay t0 high a price for therm asa whole. ‘That would he the standard pawern of defensive investment. By defensive investment, I mean investment suited 10 an individual who does nor go into secusi= ties as a business, is not thoroughly versed in the act of selecting securities, and who wishes (0 make his commitments primacily on the basis of avoiding risk and algo avoiding undue difficulry in the selection and in the watching of his investments. ‘The second question that I raised was what kind of distinctions should che banker make in bis investment counsel because of ehe financial position and com- petence of the individual investor whom he is advising or for whom he is acting? Te was customary years ago to consider that the risk caken should correspond more ot less with the financial posicion of the investor. Those of the typical “widow ‘and orphan’ variety, who couldn’e aford ro cake risk, shouldn't rake any and should accept very low returns. On the other hand people like businessmen who could afford to take chances could properly Jook for higher income and for principal profits, [My own opinion is that suck a distinction does noc work out well in practice and that ie is logically unsound. The only sound distinction in investment policies for one type of investor of another is bused not on his financial position but on his financial competence and financial preparation. The people who do not understand securities should be defensive, conservative investors; bur those who do under. stand securities, who are prepared c0 go into securities as a business man goes into his owa business, can make purchases which are nor riskier than others but rather which offer better opporranities chan others. +49 | don't think the objective of iavestment should ever be (0 take @ Fisk ie order to get a return, I think che objective of shrewd invesement should be ¢o find Copportenitics which offer larger return than the average, combined with adequate safes CConseqenly, the pattern of defensive investment which I have been speaking bout should be just a8 appropriate for a widow whom you might advise or for arpusinesaman, if che later does not want and is not prepared t0 go into investment ss a0 additional business operation of his own. I migh poine out, incidentally, the one great dificuley of advising widows, which you have probably had in many cases, is thac chey don’t have enough money Towadays to live on, on the basis of the alt-bond eype of investment. On this point T think the greatest mistake in the world would be to advise widows 10 risk their ppincipal in order ro get a greater income Whenever you talk xo a widow about the ides that maybe she ought co reduce her principal « slight amount annually in osder to meet her Jiving requirements that i looked upon as almost an unthinkable step. Yer I would like to underline the face ehat if there is no other Way t0 meet the financial requirements with soand: tress, the geadual use of principal is far superior co Ube taking of admicted risks in order to get a moderately higher income recurn. Fortunately, under the conditions prevailing for many years pest a combination of « government bond portfolio and a common stock portfolio, selected slong conventional Tines, will have given at least a respectable income return on the investment fond. “The thitd question we raise is how far can bankers go in selecting the price stocks, and in selecting the individual securities. levels at which to buy oF Lee us start with the price level. I imagine you all agree with me that bankers cannot be expected to forecast the price movements of the stock market, That's fis) enoogh to sa. If you have any opinion about the level of prices, it should be sh opinion based upon your concept of the values of securities in relation to price rather than on any prophecy or expectation of changes or of the condiauance of 1 given movernent “There are, of course, people in Wall Street who would disagree with this view. “They feel that analyzing the stock market is just as necessary and just as respectable as analyzing individual securities and security values, ] am not going co go ino the decuils of the controversy, but I will say thar T am skeptical about stock-anarkes forecasting by anybody, and particularly by bankers. Nevertheless, there is a very practical question confronting us, and that is if you were asked about the level of stock prices as of today, ftom the standpoint fof conservative investment, what would you sty — and what can J say — on thar ee me ceinark about that, chat J wish T were talking # couple of years 30° subject? Fi Id ever be to wwke « tisk in investment should be t0 find sage, combined with adequace ‘ which I have been speaking vom you might advise or for repared ro go into investment lificukty of advising widows, ney don’t have enough money of investment, On this point 0 advise widows to risk their at maybe she ought to reduce nec her living requirements, "et 1 would like co underline cial requirements with sound ve taking of admitted risks in aany years past a combination cock portfolio, selected along ctable income recurn on the ‘ers go ia selecting the price he individual securities. I agree with me that bankers of the stock market. That's € level of prices, ic should be securicies in relation to price, ges of of the consinuance of vould disagree with this view cessaty and just as respectable Lam nor going 10 go inco \ skeptical abour stock-merker confsonting us, and that is of today, from the standpoine ad what can T say — on that vere calking a couple of years ago, when the price Jevel was 175 ur the Dow-Jones Industrial Average. At chat time, it was not diffcule for me, and I assume for many others, to express the considered view chat all the elements of value we were able to cake into account indicared chat che conservative investor would not be making 2 mistake, value in making commitments in the Dow-Jones Average stocks at their level of 175. Today, it is 275 — and that is quite a differene price. I happened ro be looking yesterday at a calculation of the centeal value of common stocks which was worked ‘out in a book of mine, called "The Intelligenc lavestor” a few years ago and ic is being carried our co the year 1951 in che forthcoming new edition of “Security Analysis.” which we hope to have published in November. The last ine in that ‘Table gives the central value of the Dow Jones Average for 1951. The figure happens to be 278. Thae would indicate shat stock prices are not aver-valued, because yest cay they sold ac 277. ‘The margin of safery is not lenge; in fact, it is inconveniencly small. On this calculation we could hardly express an opinion that stock prices at this level are fully procected by values, Common stocks, in terms of the Dow-Jones Average, are selling at about en times the expected earnings for this year, and that is by po means a high figure. On the other hand, hey are selling ac about seventeen times the average earnings for the past ten years. And while that too may not be a particularly high figare, ie would be high if those eacnings are in themselves regarded as abnormally good due co protracted bur aot permanent prosperity. It is not a low Ggure from any method of lclation, In order not co void this imporiane quesvion J must give you the bese com aluson Pea reach Han investor is definitly commised 2 standard investment policy, which includes a proportion of common stacks, i is probably beter for him to,make come purcates at these levels chan to Keep his money idle waiting for an lpportunity w invest at lower prices But the iovestor mus recognize that he would be doing bis investing not under defnitly favorable codons, but more likely he rvese, He has to be prpaced psychologically for Baerntions in marker prices io either divecton, and he my conceivably hove more of a peeblem if prices fhoukd go up a gren deal than If they should go down a. rest des, Te might be bever for htm tet up bis program so ast divide his stock purchases evenly over the next year or 20. This would give him she pychogicl advange of having obsained average prices over petiod of cme, rather than making al h tment at che curren level, which is nota patccuary low one ‘The marker advance and its aetendant problems suggest chat there ase real advamages in those mechenical methods of investment known as “formula invest- mene” and “dollar averaging”. Both of them are, unfortunacely, more actactive in Lheory than they ste likely ¢o work out in practice Jn amount of shares I should explain hae dollar averaging consises of potting a money every month or every quarter into common stocks and getting n si when the market is Jow and fewer when the marke is high. This wil resule in a Satisfactory average over a period of years It is indeed a lovely proposition, if you tan view it philosophically over a ewency-year period, and pay small attention re the fluctuations from year to yee For example, on Monday of this week, Norman Seabler, in The New York HeraldTribirne, submitted a calculacion made on that basis, He showed chat eves if you had started at che cop in 1929 and bad pur $100,000 into the stock market fevery year, you would end up by having invested $2,300,000, with » current value Of $4,200,000, ia addition to an excellene dividend return. On this basis common Sock investment is easy and most atractive. All you need is $100,000 a year #0 Of course, one should mention that, even under this method, at the end of 1952 you had $400,000 invested with only $195,000 of current market value, And while we can be very philosophical aboue the thing now, I don't know how philo- sophical you would have been about ic at che end of 1952. Formula investment”, which consists of buying on a scale down under « pre- deveerined “central value” and selling on a scale up, is somerhing 1 believe in and fcrually praccice for an insurance company and for a philanthropic organization vith, which I am connected. I think it is a good idea, and 1 suggest that you look jnto ie But, natueally, i is not a complete answer to the problem of sound invest ‘ment in common stocks in che face of changing conditions “The second half ofthis thid subjece is the matter of che selection of individual issues. You bankers are supposed to know the "good companies’. Your clients come to you and ask "What scocks should I buy now?" and you are supposed to give them the answer. Tam going to say something unpopular a this point. I doo’ dink you bankers can answer thae question any better than you can answer the question as to what the market is going co do in the next wo months or thsee months. That may be Tittle exaggerated. 1 should say you can’: do it much beter, And let me tel you why. Ie is easy, of course, f0 pick out good companies, companies thar are better than other companies. But that is nor the same thing as picking out good stocks to buy at their carrent prices. The reason should be obvious. The good companies sell at high prices in relation ro what they show, and che companies that are nor 0 good sel at low prices in relation to what they show And which one isthe better fone t0 buy cannot be decided ia any simple, offhand manner such as saying that itis always beter to buy your jewelry a¢ Tifany’s than at Macy's, Thar may or may aot be true, T would like to give you a concrete illustration of this fact by means of a quick chomb-nail security analysis comparison. I am taking «wo companies at the begin- ning of the stock list. One is Allied Chemical & Dye, and the other issue right +92 bigh. This will resule in 2 1 lovely proposition, if you tnd pay small attention to itabler, in The New York vasis, He showed thac even 000 into the stock marker 3000, with 2 cazrent value tun, On this basis common reed is $100,000 a year «0 hhis method, ac the end of ‘current market value. And 7,1 don't knaw how phile- a scale down under a pre something I believe in and philanthropic organization ad I suggest that you look = problem of sound invest f the selection of individual panies”, Youe clients come ‘are supposed c give them +. [don't think you bankers at the question as t0 what ree months. That may be a +, And lee me cell you why companies thar ere beter 1s picking oat good stocks rious. The good companies the companies that are nor And which one is the betes rnanner such as saying chat Macy's, That may oF n is fact by means of a quid ‘0 companies at the begin- and the other issue sigh afcer it is Allied Kid Company. The first one you have all heard of; the second fone some of you may not have heard of. Allied Chemical & Dye is selling for {$66,000,000 in the marker, and Allied Kid is selling for $5,300,000 in the market. Appateatly, Allied Chemical is a much becter company than Allied Kid; cercainly, it is larger; certainly, i is stronger, not only hat, ic has a more stable record; it is ina bere indusery, ‘Does that mean that ie is obviously better to buy Allied Chemica) st 75 than Allied Kid at 21? The answer co that question is not quite so clear. Let me give jguees 0 indicate why thac isso. you some Allied Chemical etened $5 in the last ewelve months; Allied Kid, $3.50. ‘Allied Chemical earned on the average $3 in the last ten years; Allied Kid average carnings were $2.78, Allied Kid has $30 of net working capital available for the srock selling a $21; Allied Chemical has $14 for its stock selling at $75. The net caogible assets of Allied Kid are abour $34 per share and those of Allied Ch are also abour $34 nical Hence what you find is that, pee dollar of earnings, of dividends, and of assets, you would get between 215 and 314 times as much if you bought Allied Kid ar $21 vs you would get if you bought Allied Chemical ac $75. Bur in Allied Chemicat you are getting « beter company. Is it worth paying 244 to 344 times more on a dlollae for dollar basis? ‘Thac is a matter for you co decide. I suggest dhac che answer is nor quite 90 easy ‘That problem exists in che macker righe along, For example, take the chemical company, of which Allied Chemical is am illustration. We know cha they have been very successful we know they have been very popular in the stock market. Yet if you look ae the record of stock prices you will find chae while che chemicals have done somewhat beter than the industrials as a whole since che prewar period as measured by the Standard & Poor's averages there ste at least ¢ dozen industry ‘groups which have done a great deal better in che market than the chemicals. Here are 2 couple of examples ‘Take the 1935-39 average of stock prices as 100. The chemical scocks and the echical drug stocks are selling, respectively, ar 256 and 262, which is very nice, But the paper stocks are selling at G19; reyons at G15; coal at 455; disvillers ac 477: tires and rubber ac 428; fertilizer at 441; oil ac 311; sir transport at 355; cotton goods at 309, You have a dozen industries, most of chem noe at all populae in character, which over che pase evelve years have behaved in the stock markee better then the chemical stocks, [My own opinion is that the selection of individual securities is @ matter partly of a special kind of judgment and insight, and party of a good deat of security analysis eraining, On che whole it is not done coo successfully by bankers, and they showld not concentrate ¢ n. I think chey would render ir efforts in char direct 33 an excellent service to their clients if they emphasized, rather, the importance of diversification in the field of sound, leading, primary securities, where che oppor tunity for making any serious misake is relatively smell, and where che investor is assured of getting a satisfactory average retusn, This is all that the investment public as a whole can expect 0 accomplish, because investors cannot get rich by being smarter than each other The foregoing expresses my view as to che advice that bankers should give 0 the typical defensive investor whose emphasis is not on investing his abiliey but ‘only on investing his money in securities. Now, whac about the attitude of bankers toward the other type of investment, which 1 call “aggressive investment” — co be catcied on by people who wane «0 take a trac business attitude towards securities, inthe same way that you bankers are ‘now taking a srae business acticude cowards the purchase of government bonds and tax-free securities for your institutional account? You spend hours celculating the pros aad cons relative to the various Kinds ‘of government bonds and similar types of investmencs. You get instruction of value in Seminars such as this. There must be something corresponding to that attitude in the area of securities which are nor government bonds, which do not yield from 215% down co 2%, but perhaps yield 10%, perhaps offer 100% profit possibilities, or someshing in beeween. ‘Let us talk for a moment of some philosophical implications in thet area in the security markets, One point seems to me 10 be obvious. If ic is true chat the kind of investment counsel that you are going to give (and that professional invest ment advisors in general are going to give) will necessarily stress che purchase of leading, promioent, primary securities, the effec: must be thar, on the whole, che secondary issues will sell a¢ comparatively undervalued prices. 1 chink that follows 18 kind of mathematical resule of the law of supply and demand. If all the demand is for the highsgrade securities, then the supply of low-grade securities must result, relatively a least, in an under-valued price a good part of the time. ‘One of the unexplained riddles of the stock market is why chat doesn’t happen all the time, As a matcer of fact, it doesn't, Strangely enough, in the upper levels of bull markets, chere is a tendency for speculation to go over into the secondary issues to a degree at Jeast comparable to that in the primary issues, and so you have overvalution in the secondary issues as well 2s in the leaders. Thee happened very noticeably in 1946, Incidentally, ie is not erue today and 1 think that is one of the reasons why, as far as the application of cechnical rests of the market's position is concerned, one cannot be too negatively disposed towards commonstock invest ‘ment at today’s levels, in spite of the advance of che higher-arade issues. The lower grade securities have not kepe pace with them, “The general explanation of chat phenomenon is selated

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