At AFIA, we often discuss with you our investment strategy and the importance of having a long-term perspective. In that vein, we want to share a principle from an early mentor of Warren Buffet, Benjamin Graham: “Buy stocks the way you buy groceries, not perfume.”
What does this mean? It’s a powerful analogy that emphasizes the importance of value and necessity over speculation and fleeting trends.
Think about how you shop for groceries. You compare prices and quality, looking for the best deals on items you need. You wouldn’t splurge on an extravagant, overpriced item just because it’s attractively packaged or impressively advertised. You prioritize substance over hype.
This is how we should approach investing. Instead of chasing the latest “hot stock” or being swayed by market sentiment, we want to focus on the intrinsic value of a company. We need to ask:
- Is this a fundamentally sound business? Just like checking the produce to select quality fruits and vegetables, we analyze a company’s financial statements, looking at its earnings, cash flow, and debt levels. We want to exclude damaged goods.
- Is the price reasonable? Similar to comparing prices at the grocery store, we want to determine if the stock is trading at a discount to what we think a knowledgeable buyer would pay for the company. But our focus isn’t on finding the cheapest things, it’s on value for the price. Likewise, if we think a quality company is selling at an inflated price, we might put it on our “wish list” and hope it goes on sale someday.
- Do I trust and appreciate the management? You’re more likely to trust some brands at the supermarket because you have had good experiences with them. I think of labels like Kirkland, Member’s Choice and Trader Joe’s in this way. Similarly, we like to look at the underlying management of a company to see if we can find characteristics that make us feel comfortable with them, like being shareholder-oriented and good businesspeople.
- Do I understand what I’m buying? Just as you wouldn’t buy a food item without knowing its ingredients, we focus on companies whose business models we understand. Key ingredients include how they make money, what their competitive advantages are, and what risks they face. Conversely, we want to avoid those that we aren’t comfortable evaluating.
Perfume, on the other hand, stands for speculative investing. It’s often purchased based on emotion, marketing, or perceived status, rather than actual need or value. Chasing trends in the stock market is akin to buying perfume – your craving for a good outcome could cause you to overpay for something that quickly loses its appeal.
Graham’s analogy reminds us that investing should be rational, not emotional. It’s about identifying sound businesses, understanding their value, and buying them at a reasonable price. It’s about focusing on the long-term, not trying to time the market or chase short-term gains.
By adopting this “grocery shopping” mindset, we aim to build portfolios oriented towards long-term success and avoid the pitfalls of emotional investing, such as overpaying for hyped stocks or panicking during market downturns.
We’re here to discuss your investment goals and to explain how we work to apply these principles to your portfolio. Call us with your questions or observations.
Disclaimer: This article is for informational purposes only and should not be construed as specific financial advice.
Eric Ball, CFA
Managing Director & Chief Investment Officer
America First Investment Advisors, LLC
Omaha, Nebraska
This post expresses the views of the author as of the date of publication. America First Investment Advisors has no obligation to update the information in it. Be aware that past performance is no indication of future performance, and that wherever there is the potential for profit there is also the possibility of loss.
