Edgar Lawrence Smith

"The tests which are the subject of this discussion were devised to disclose how much reliance could be replaced upon an Index of the Price Level for Industrial Common Stocks compiled from the point of view of investment values rather than of price changes."

"It is assumed that the reader is familiar with some, at least, of the various conceptions of the business cycle currently discussed by economists. These are summarized, in greater detail than is necessary for our present purposes, in Mitchell's "Business Cycles, The Problem and the Setting" (1927), and King's "The Cause of Economic Fluctuations" (1938); the latter being noteworthy for its sympathetic reference to those who have found it necessary to push their search for the underlying causes of business cycles beyond the limits customarily regarded as the boundaries of the economic field."

"Labor seeking higher wages is, in part, attacking the value of the dollar; farmers seeking higher prices for their products and eager to pay off the mortgage on the farm are, in part, assailing the value of the dollar; tariff protected industries join in reducing the purchasing power of the dollar. All debtors favor a depreciating dollar."

"The Dollar to-day is a different measure from the Dollar of yesterday."

""Safety of principal," yes—that is the first essential. But what is "principal"—is it merely the obligation of some sound organization to repay a certain number of fluctuating measures of value at a future date? What if, at the date of repayment, the measure has shrunk to one-half of its present size? Has the principal been safeguarded?"

"We have found that there is a force at work in our common stock holdings which tends ever toward increasing their principal value in terms of dollars, a force resulting from the profitable reinvestment, by the companies involved, of their undistributed earnings. We have found that unless we have had the extreme misfortune to invest at the very peak of a noteworthy rise, those periods in which the average market value of our holdings remain less than the amount we paid for them are of comparatively short duration, and that even if we have bought at the very peak, there is definitely to be expected a period in which we may recover as many dollars as we have received. Our hazard even in such extreme cases appears to be that of time alone."

"The economists would say that it is the upward "Secular Trend" that favors common stocks as opposed to bonds, so long as the population and the business of the country are increasing. There is something more than growth of population that contributes to the rise in the "Secular Trend" and the increase in business from decade to decade. It is the constantly accelerating speed of modern life. All of our activities are on a much more rapid basis to-day than they were twenty years ago, due in part to the constant increase in the speed of communication and transportation and the countless major and minor time-saving devices that have been introduced into our business and private life."

"In periods of high interest rates, such as were current in 1866, long term bonds are not freely offered, as the managements of issuing companies endeavor to protect themselves against the permanent payment of such rates."

"All lenders of money, particularly bondholders, favor an appreciating currency. No other class is always actively in favor of an appreciating currency. In theory they all believe in sound or stable currency, but each, in his effort to widen the margin of profit that he makes in relation to profits in other lines, at times subscribes to activities which tend toward depreciation. Fortunately business men are both buyers and sellers. In buying they work for appreciating dollars, in selling they endeavor to depreciate the currency."

"In 1924, Edgar Lawrence Smith, an obscure economist and financial advisor, wrote Common Stocks as Long Term Investments, a slim book that changed the investment world. Indeed, writing the book changed Smith himself, forcing him to reassess his own investment beliefs. Going in, he planned to argue that stocks would perform better than bonds during inflationary periods and that bonds would deliver superior returns during deflationary times. That seemed sensible enough. But Smith was in for a shock. His book began, therefore, with a confession: “These studies are the record of a failure – the failure of facts to sustain a preconceived theory.” Luckily for investors, that failure led Smith to think more deeply about how stocks should be evaluated. For the crux of Smith’s insight, I will quote an early reviewer of his book, none other than John Maynard Keynes: “I have kept until last what is perhaps Mr. Smith’s most important, and is certainly his most novel, point. Well-managed industrial companies do not, as a rule, distribute to the shareholders the whole of their earned profits. In good years, if not in all years, they retain a part of their profits and put them back into the business. Thus there is an element of compound interest (Keynes’ italics) operating in favour of a sound industrial investment. Over a period of years, the real value of the property of a sound industrial is increasing at compound interest, quite apart from the dividends paid out to the shareholders.” And with that sprinkling of holy water, Smith was no longer obscure."