Without Benjamin Graham we may not know the name Warren Buffett. Graham was an investor, professor, and practical philosopher. He wrote the masterpiece Security Analysis during the midst of the Great Depression, as well as The Intelligent Investor, and was a professor, mentor, and employer to Buffett.

Graham wrote that the markets in the short term are like popularity contests. The short-term prices move around more than the true underlying value of an asset. In the long term there is more pause, more deliberation about what something is worth. The earnings power and underlying assets take over.

Why should a stock’s price move 50-70% in one given year when economic theory says that they’re the present value of all free cash flows? One year’s earnings are usually <10% of the total future value of the company. Surely default risk can only be a small part of that difference.

“The market is not a weighing machine, on which the value of each issue is recorded by an exact and impersonal mechanism, in accordance with its specific qualities. Rather should we say that the market is a voting machine, where on countless individuals register choices which are the product partly of reason and partly of emotion[1].”

The implication for other domains is comforting. Businesses or ideas have to be built for more than just fads, or trends that are short-term. Truths that are better ignored to make us feel good now will eventually catch up. Eventually, the truth comes out. That kind of time arbitrage, while hard to capture, will never go away.

[1] Security Analysis (1940, page 27)

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