Exploiting market fluctuations: the metaphor of Mr. Market

One of the best explanation of the market's behavior and the correct way to exploit it is Benjamin Graham's metaphor of Mr. Market.

Let's suppose you own a small amount of shares in a private business, which you payed 10000$. One of your partners, named Mr. Market, everyday tells you what he thinks your interest is worth and offers you 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. Other times on the other hand he let's his enthusiasm or his fears run away with him, and the value he proposes seems to you a little short or silly.

If you know the business you own and you have an idea of it's value, you won't be influenced by Mr. market opinion on the value of your 10000 $ interest. Instead you will take advantage of his misjudgements by buying from him when the prices appears too low and by selling him your stake if the price appears ridiculously high. 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 it's operation and financial position.

The value investor is in that very position when he owns a listed stock. He can take advantage of the daily market price or leave it alone based on his judgements.

Price fluctuations have only one significant meaning for the value 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 fluctuations and pays attention to his dividend returns and to the operating results of the companies he owns.

Never let the opinion of the general public influence your action. Stick with what you know and take advantage of the market's foolishness.

"You are neither right nor wrong because the crowd disagrees with you. You are right because your data and your reasoning are right" - Benjamin Graham