Security Analysis - Graham and Dodd - A question of internal consistency

This question is aimed at people who have read Security Analysis by Graham and Dodd and are familiar with the work itself and/or the author’s investment philosophy.

Reading Security Analysis I encountered what seems to me a problem with the internal inconsistency in the author’s writing on Intrinsic Value. I am pretty sure it’s to do with me not grasping it right so I’m putting my doubts out there to see if somebody can help me find the way.

The problem as I see it is as follows:

  1. Graham talks about looking for bargain opportunities where the market price is different from the range of prices that may be called the Intrinsic Value.

  2. Ch. 4, p.111, Graham says “it is a function of the stock market, and not of the analyst, to appraise speculative factors [as opposed to the investment value] in a given common-stock picture. To this important extent the market, not the analyst, determines intrinsic value.”

My question is, if the market determines intrinsic value then how can the market price be different to the intrinsic value of the issue?

If the stock’s intrinsic value is equal to its investment value plus its speculative value then there can only ever be a divergence between intrinsic value and market price if the market price is below the investment value. In this case, the concept of intrinsic value is obsolete to the value investor and he should only ever focus on looking at the investment value. If so then why all the talk of intrinsic value?

Anyone has any helpful insights on this?

Many thanks

Kako Ste!

Throughout much of the book Graham details speculative stock really as issues that lack logical premise, minor premise and conclusion but take a high price. The chapter, I believe in part 4 but my books in my car, Common Stock Analysis - he details a pre-war speculation based on earnings that seem to have no end and another example where earnings do not exceed dividends. The point is that both ‘reasons’ aren’t scientific but speculative as they’re driven by exuberance or some kind of confidence not sound in logic or analytical assesment. He’s a big fan of earnings in excess of dividends but especially of a solid enterprise value and a BV that renders the security as a discount.

Key points: He hates speculation, doesn’t care much for common-stock as a ‘sound investment’ and deems intrinsic value really as sound companies (though his definition of sound appears in fragments throughout the book) based in logical fact on the premise of principle.

Question: Are you living in Serbia? How’s the investment climate there? How about Montenegro?

To the extent that equity in itself is a speculative asset class. The intrinsic value of a stock is not a number, but a range of values that the stock is most appropriately worth for given it’s potential for return, and inherit risk.

To that extent. The intrinsic value of a stock is equal to the market’s perception of it’s price when it is most rational. And so far as the analyst’s ability to determine how much the stock is worth, the market’s perception will always prevail. For the speculative factors that are a function for the stock price, always revert to rationality, and hence the complete picture of the rational market is the stock’s intrinsic value. Only when the analyst determines that the stock price is irrational compared to the more rational reflection of the market, does he see it as a bargining opportunity to make profit based of price deviations.