The punches you miss are the ones that give you a 'va'.- Boxing trainer Angeli Andi
For both aggressive as well as defensive investors, what you don't do is just as important to your success as what you do. In this chapter, Graham lays out a century of things not to do for aggressive investors. Here's today's tip.
Junkyard Dogs ?
May bonds are what Graham calls 'second grade' or 'lower grade'. Graham completely disapproves of these being called 'junk bonds'. In his view, it is too demanding and cumbersome for an individual investor to hedge the risk of default.' (Read this article to see how bad a default can be, and how recklessly 'world' professional bond investors can make such purchases.) Today, however, more than 130 mutual funds specialize in junk buying. These funds buy this junk by the cartload. They hold dozens of bonds of different varieties. This eliminates the problem of diversification of the stock. Then there is the bias against high-yield priced stocks, because they are not cheap, and there is a wide availability of them to spread the risk.
The Troubled World of WorldCom Bonds
Take buying a bond just for its yield is like marrying just for sex. If you lose interest in what attracted you in the first place, you may find yourself asking, what's the point of it all now? When the answer is nothing, it can leave spouse and bondholder alike heartbroken.On May 9, 2001, WorldCom, Inc. made the largest bond offering in U.S. corporate history, raising $11.9 billion.DoAmong the buyers eager for its attractive 8.3% yield were the California Public Employee Retirement System, one of the world's largest pension funds, the Retirement Systems of Alabama, whose managers later said, "We found its high yield 'most attractive' when we bought it." And the Strong Corporate Bond Fund, whose co-manager liked World's high yield so much that he bragged, "We are getting more than enough return for the risk."But a 30-second glance at World's bond prospectus would have shown that the yield on these bonds was not going to give anything, but everything. Two of World's pretax earnings (the company's profit before taxes) over the past five years had fallen short of its fixed charge (the cost of paying interest to its bondholders) by a whopping $4.1 billion. WorldCom could borrow from the bank to cover these bond payments. And now, with this new massive bailout from the bonds, WorldCom had increased its interest costs by another $900 million a year. WorldCom had also overinflated itself to the point of bursting like Mr. Quotes in the Fat Pythons' The Meaning of Life.Is.InNo yield is high enough to compensate the investor for the risk of such a bust. WorldCom bonds offered a hefty yield of up to 85% for some months. Then, just as Graham had predicted, the yields suddenly stopped coming.
• In July 2002, WorldCom filed for bankruptcy.
• In August 2002, WorldCom admitted that it had overestimated its revenue by more than $7 billion.
• World's bonds defaulted when the company failed to meet interest charges. The underlying value of the bonds declined by as much as 80%.
gave an annual return of 10.5% compared to 8.6%. Unfortunately, most junk funds have a high fee impact, but they are very poor at protecting your investment's principal. Junk funds are appropriate if you were retired, looking for monthly income in addition to your pension, and could ignore a temporary drop in value. If you work for a bank or other financial company, a sharp rise in interest rates could not only limit your pay rise, but also threaten your job. So, junk food outperforms all other bond funds when interest rates rise. Your 401(1)c may be worth increasing. However, for the intelligent investor, there is a smaller option than junk bonds, with no obligation to invest.
Modaka and Burrito Portfolio
Baden did not consider foreign bonds to be a better bet than junk bonds. Today, however, one type of foreign bond can be attractive to risk-taking investors. Roughly a dozen mutual funds specialize in bonds issued in emerging market nations (or what are commonly called "third world countries") such as Brazil, Mexico, Nigeria, Russia and Venezuela. No sane investor would invest more than 10% of their total bond portfolio in such pricey holdings, but emerging market bond funds rarely move as far as U.S. stock markets, so these are rare investments that are unlikely to fall just because the Dow has fallen. This can provide a big breather in your portfolio when you need it most.
death of trader
As we have already seen in Chapter 1, day trading, where you hold stocks for only a few minutes, is the best weapon ever invented for financial suicide. Some of your trades may make a profit, but most trades will result in losses, but your broker always makes a profit.And your own eagerness to buy or sell shares can reduce your returns. Some people who are anxious to buy a stock may end up paying up to 10 cents more than the going price of the stock before any sellers are willing to sell. This extra payment, called the "market impact," never shows up on your brokerage statement, but it's real. If you are anxious to buy 1,000 shares of a stock and you pay just five cents more, you've spent an invisible but real $50 on it.
On the contrary, when an investor panics and sells his shares at a price lower than the immediate price, he also becomes a victim of market price manipulation.Trading expenses will eat up your returns like sandpaper many times over. Selling or buying a small hot stock can cost anywhere from 29% to 4% (and 4% if there is a round trip to buy and sell). If you have $1,000 invested in a stock, your trading expenses will eat up about $40 of your profit before you even realize it. Sell shares, and you'll incur trading expenses of $100.Yes, there is one more thing. When you trade instead of investing, you convert expected long-term gains (which are taxed at the maximum 20% capital gains rate) into ordinary income (which is taxed at the maximum 38.6% tax rate).Adding it all up, a stock trader needs at least a 10% profit just to break even by buying and selling stocks. If someone can do that even once, they are lucky. It is impossible to justify the obsessive focus needed to do it often enough and the nightmarish stress it creates.Thousands of people have tried, and the evidence is clear: the more you trade, the more your profits diminish.University of California finance professors Bandy Barber and Terrence Odan examined the trading records of more than 66,000 clients of a major discount brokerage firm. From 1991 to 1996, these clients traded more than 1.9 million times. Before trading expenses were taken into account in their returns, the people studied actually out performed the market by an average of one percentage point per year.
But after trading expenses, the most active of these traders—those who moved more than 20% of their stock holdings per month—went from beating the market to underperforming it by 6.4 percentage points per year. However, more patient investors, who averaged only 0.2% of their holdings per month, were able to outperform the market even after trading expenses. They were able to keep nearly all of their profits rather than giving most of them to their brokers or to taxes. See Figure 6-1 for a visualization of these results.The lesson is clear: do nothing, just stand by. It is time for everyone to accept that there is no such thing as a 'long-term investor'. An investor is only someone who invests for the long term. Anyone who cannot hold stocks for more than a few months is doomed in the end, not victorious.
come early, get early
One of the most insidious ideas in the get-rich-quick poison that infected the minds and hearts of investors in the 1990s was the idea that buying an IPO would make you rich. An IPO is basically an initial public offering, or the first sale of a company's stock to the public. At first glance, investing in IPOs seems like a good idea—after all, if you had bought 100 shares of Microsoft as soon as it went public on March 13, 1986, your $2,100 investment would have grown to $720,000 by 2003." And finance professors Jay Ritter and William Schwert showed that if you had invested $1,000 in each IPO at its offering price in January 1960 and sold it by the end of the month, and made a new investment in the IPO the following month, your portfolio would have been worth more than $533 decillion by the end of 2001.
Unfortunately, for every IPO that's a big winner like Microsoft, there are thousands of other losers. Psychologists Daniel Kahneman and Amos Twerkey have shown that when humans estimate the probability or frequency of an event, they are biased not by how often that event has occurred, but by how much variation it has had in past instances. We all want to buy the 'next Microsoft' because we probably know we missed out on buying the 'first Microsoft', but we often overlook the fact that most IPOs are terrible investments. You would only be able to make this $533 decillion profit if you could buy all of the IPO market's rare winners, which is practically impossible. In the end, the biggest gain in IPOs is the price of a stock.
The returns go to the big investment banks and fund houses that are members of an exclusive private club who bought the stock at the opening (or 'underwriting') price before the stock is put on public trading. The 'biggest run-ups' in stocks are often too small for even big investors to get any shares. Nor are they enough.If, like nearly every investor, you only get in on IPOs after they have risen above a typical opening price, you'll likely see poor results. From 1980 to 2001, if you bought the average IPO at its first public closing price and held it for three years, you would have underperformed the market by more than 23 percentage points annually.Perhaps no stock has better exemplified the dream of getting rich from an IPO than VA Linux. One early owner exulted, "'Buy now and retire five years from now.' On December 9, 1999, the stock was offered at an initial public offering price of $30, but demand was so great that none of VA Linux's early owners sold until the price hit $299 when the NASDAQ opened that morning. The stock rose to a top of $320 and closed at $239.25, a single-day gain of $697.5%. But these gains were accrued to only a handful of institutional traders, leaving individual investors virtually untouched.Most importantly, buying an IPO is a bad deal because it blatantly violates one of Graham's fundamental rules. No matter how many other people want to buy the stock, you should buy it if the stock is cheap enough to be worth buying. From its first-day high, investors raised the value of V.A. Linux's stock to a total of $12.7 billion. Is the company worth that much money? V.A. Linux, a company less than five years old, has raised its total stock price to $12.7 billion.VA Linux sold $544 million worth of software and services and lost $25 million in the process. In the most recent quarter, VA Linux earned $15 million in sales but lost $10 million. The business was losing about 70 cents of every dollar it spent. VA Linux's accumulated deficit (the excess of total expenses over revenue) was $30 million.If VA Linux was a private company owned by your neighbor and he asked you from the front door how much you could pay to buy his struggling business, would you answer, oh, $12.7 billion is fine? Or would you smile and cook your barbecue wondering what kind of drug your neighbor is on? Trusting only our own judgment, none of us would be foolish enough to agree to pay nearly $13 billion for a losing business that had already lost $30 million.But when we go public instead of private, where price suddenly becomes a popularity contest, the price of the stock becomes more important than the value of the business it represents. When someone else is willing to pay more for the stock than you did, what difference does it make how much the business is worth?This chart shows why this is important.
After rising sharply on its first day of trading, BA Linux crashed like a buttery int. On December 9, 2002, three years to the day the stock hit $239.50, VA Linux closed at $1.19 per share.By weighing the evidence objectively, the intelligent investor should conclude that IPO does not simply mean Initial Public Offering. A more accurate abbreviation is:It's probably Overpriced imaginary profits only Insiders Private Opportunity, or (private opportunity for insiders)Idiotic, prestigious and outrageous.
Conclusion :
• Graham was writing in the early 1970s. In those days, fewer than a dozen junk bonds existed. Nearly all charged sales commissions of up to 8.5 percent. Some junk bonds also charged investors a fee to allow them to reinvest their monthly dividends in the fund.
• Edward I. Antman and Gaurav Bana, 'Defaults and Returns on High-Yield Bonds,' Research Paper, Stern School of Business, New York University, 2002.
• Graham has been equally critical of foreign bonds. He worked as a New York-based bond agent for several Japanese borrowers early in his career.'The Fidelity New Markets Income Fund and the T. Rowe Price Emerging Markets Bond Fund are two low-cost, well-managed emerging-market bond funds. For more information, see https://www.studyiq52.blog, https://www.studyiq52.blog/2025/08/indian-stock-market-update-summary.html, and https://www.studyiq52.blog/2025/08/comment-on-chapter-5.html. Don't buy any emerging market bond fund that has annual operating expenses of more than 1.25 percent. Be aware that some of these funds charge short-term redemption fees to discourage investors from holding them for less than three months.
• 'The studyiq52.blog Group of Santa Monica, California, and its website https://www.studyiq52.blog are reliable sources on brokerage costs. Plexus argues that just as most of an iceberg is below the ocean's surface, most of the brokerage costs are invisible. As a result, investors are tempted to believe that if commission costs are low, trading costs will be low as well. The cost of trading NASDAQ stocks is much higher than the cost of trading stocks listed on the New York Stock Exchange (NYSE).
• The real world situation is more complex as we have ignored state income taxes in this example.
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