I’ve been reading Aswath Damadaran’s website with my free time. I came across a very interesting article on Beta vs. Margin of Safety. That article basically describes the difference in using Beta vs. Margin of safety as a proxy for risk. Beta measures the covariance of an asset vs. the market. It shows how sensitive an asset is compared to the overall market.
The introduction quoted Warren Buffett saying:
“Finance departments teach that volatility equals risk. Now they want to measure risk. And they don’t know any other way¾they don’t know how to do it, basically. So they say that volatility measures risk. I’ve often used the example of the Washington Post stock when we first bought it: In 1973, it had gone down almost 50%¾from a valuation of the whole company of close to say $180 or $175 million down to maybe $80 million or $90 million. And because it happened very fast, the beta of the stock had actually increased. A professor would have told you that the stock of the company was more risky if you bought it for $80 million than if you bought it for $170 million¾which is something that I’ve thought aboutever since they told me that 25 years ago. And I still haven’t figured it out.”
Warren Buffett
Outstanding Investor Digest (August 8, 1997)1The article goes on to say that Buffett was wrong. Washington Post’s beta actually went down so that didn’t disprove finance theory. Margin of safety increased due to Buffet holding a belief different than the market. This does not disprove finance theory.
The article goes on to say that Buffett was wrong. Washington Post’s beta actually went down so that didn’t disprove finance theory. Margin of safety increased due to Buffet holding a belief different than the market. This does not disprove finance theory.The article goes on to show that investing in stocks with a margin of safety using the kelly formula to determine how much to invest.
I liked this article. I am a big fan of Warren Buffett and I usually don’t read any articles that argue with what Warren Buffett says. Very informative and entertaining.
By: Loi Tran
