Anytime volatility picks up or the market makes a big move higher or lower, investors should remember that the market sets prices based off of the collective wisdom and stupidity from millions of decisions.
But as is often the case, many investors rely heavily on the direction of prices to decide how they should act (eventually, leading them to look for “expert” opinions or forecasts to confirm their actions).
When price direction alone dictates your actions, then it’s a good time to remind yourself that stocks are not pieces of paper, but pieces of a business. As Graham’s parable of Mr. Market likes to point out, the price being offered on any given day doesn’t always reflect the real value of the business.
Imagine that in some private business you own a small share that cost you $1,000. One of your partners, named Mr. Market, is very obliging indeed. Every day he tells you what he thinks your interest is worth and furthermore offers either to buy you out or to sell you an additional interest on that basis. Sometimes his idea of value appears plausible and justified by business developments and prospects as you know them. Often, on the other hand, Mr. Market lets his enthusiasm or his fears run away with him, and the value he proposes seems to you a little short of silly.
If you are a prudent investor or a sensible businessman, will you let Mr. Market’s daily communication determine your view of the value of a $1,000 interest in the enterprise? Only in case you agree with him, or in case you want to trade with him. You may be happy to sell out to him when he quotes you a ridiculously high price, and equally happy to buy from him when his price is low. But the rest of the time you will be wiser to form your own ideas of the value of your holdings, based on full reports from the company about its operations and financial position.
The true investor is in that very position when he owns a listed common stock. He can take advantage of the daily market price or leave it alone, as dictated by his own judgement and inclination. He must take cognizance of important price movements, for otherwise his judgement will have nothing to work on. Conceivably they may give him a warning signal which he will do well to heed – this in plain English means that he is to sell his shares “because” the price has gone down, foreboding worse things to come. In our view such signals are misleading at least as often as they are helpful. Basically, price fluctuations have only one significant meaning for the true investor. They provide him with an opportunity to buy wisely when prices fall sharply and to sell wisely when they advance a great deal. At other times he will do better if he forgets about the stock market and pays attention to his dividend returns and to the operating results of his companies. – The Intelligent Investor
Pick an adjective to describe a person and you can attach it to the market. Graham points out that no matter what the adjective of the day is, you always have a choice.
You can pay attention or you can ignore it.
And you should accept that Mr. Market will offer some crazy prices at times. Embrace it. Profit from it. The smart investor listens when the opportunity is in their favor.
Remember, the day to day mood of the market might make you richer or poorer on paper but it’s the fundamentals of the business – earnings and asset growth – that really drive business performance and your net worth.
