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Chapter 3: The Behavior of the Security Markets

·         Almost any security may be a sound purchase at some real or prospective price, and an indicated sale at another price.

·         A competent analyst should have sufficient familiarity with the important behavior patterns of the securities markets so that he can form intelligent conclusions about the probable price-movement characteristics of various types of securities issues. An essential part of each analysis a general anticipation of future earnings position, based on adequate observation, of the broad pattern of price fluctuations that is likely for the security.

·         Graham says that experience shows that first-grade common stocks may be dangerously overpriced in the upper reaches of a bull market and this is more pronounced for less prominent issues. Hence it is important to have independent standards of value which resist the pervasive optimism and pessimism of alternating market swings.

·         Graham posits that for most leading issues the price fluctuations correspond fairly well to business valuations made independently of price and in accordance with rational techniques of appraisal. In the smaller and less prominent companies – the secondary issues – median market prices fall below the apparent value of the business.

·         A practical observation that is based on experience rather than theory that Graham notes is that when the general market is high there are always a number of individual issues that appear definitely undervalued by objective standards and consequently even more attractive in contrast to the inflated level of other stocks. The analyst may be tempted to recommend these as unusual opportunities, but that is a time that calls for especial caution. When a downturn comes it is likely to decline in price along with the general market and to fully as great an extent. In a word, beware of bargains when most stocks seem very high.

·         The recurrent but highly irregular stock-market cycles are of prime interest to the analyst, because their low ranges and high ranges almost always mark areas of undervaluation and overvaluation for both standard and secondary common stocks in general. In intermediate areas of the general market or during its minor downturns, there are significant price fluctuations in many secondary stock issues when standard stocks remain in a neutral range.

·         Graham advices that it is better to sacrifice quick marketability to attractive value rather than vice versa.

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