What is Mr. Market?
Used as an allegory, Mr. Market is an imaginary investor devised by Benjamin Graham and introduced in his 1949 book, The Intelligent Investor. In the book, Mr. Market is a hypothetical investor who is driven by panic, euphoria, and apathy (on any given day), and approaches his investing as a reaction to his mood, rather than through fundamental (or technical) analysis. Modern interpretations would describe Mr. Market as manic-depressive, randomly swinging from bouts of optimism to moods of pessimism.
- Mr. Market is an investor prone to erratic swings of pessimism and optimism. Since the stock market is comprised of these types of investors, the market as a whole takes on these characteristics.
- Graham's take is that a prudent investor can enter stocks at a favorable price when Mr. Market is too pessimistic. When Mr. Market is overly optimistic, investors may choose to look for an exit.
- Mr. Market creates ups and downs in stock prices all the time, and prudent fundamental investors are unfazed by them since they are looking at the larger, long-term picture.
Understanding Mr. Market
Investor and author Benjamin Graham invented Mr. Market as a clever means of illustrating the need for investors to make rational decisions in regard to their investment activities instead of allowing emotions to play a deciding role. Mr. Market teaches that although prices fluctuate, it is important to look at the big picture (fundamentals) rather than reacting to temporary emotional responses. Graham is also well-known for his most successful student, multibillion-dollar value investor Warren Buffett.
Greed and fear are now well-accepted hallmarks of advanced capital market systems. The herd behavior of these markets and the individuals populating them can at times gravitate to certain stereotypes. Mr. Market is one such archetype.
Legendary investor Warren Buffett, an ardent disciple of Benjamin Graham, is a frequent student of the book, The Intelligent Investor, particularly chapter 8 where Graham describes Mr. Market. Buffett's even gone on to consider the book the best book on investing ever written.
Mr. Market Lessons
Mr. Market is willing to constantly buy or sell a stock based on whether it has recently gone up or down. Yet, these actions are based on the emotion of recent events, and not on sound investing principles.
Graham, and the students that follow him, believe that investors are better off assessing the value of stocks through fundamental analysis, and then deciding whether the future prospects of a company warrant a purchase or sale of the security.
Since Mr. Market is so emotional, it will offer up opportunities for diligent investors to enter and exit at favorable times. When Mr. Market gets too pessimistic, valuations on good stocks will be favorable allowing investors to purchase them at a reasonable price relative to their future potential. When Mr. Market is overly optimistic this may provide a good time to sell the stock at a valuation which is unjustified.
Example of Mr. Market and Warren Buffett
Warren Buffett resonated with the teachings of Benjamin Graham, and loves the Intelligent Investor book.
Warren Buffett buys stocks and companies for the long-haul, seeking out investments with strong growth and tries to buy them a reasonable stock price. This doesn't mean the stock has recently dropped. If a company continues to grow over time, while the stock price will oscillate, as long as that company keeps growing the stock price should rise over time.
One example is Apple Inc. (AAPL). The company fit within Buffett's criteria for growth, as well a company that has an economic moat which means it can likely continue to do well going forward despite potential competition. By the end of 2017, Buffett's company Berkshire Hathaway owned more than 165 million shares of Apple. That total increased into early 2019, with the company owning 252.2 million shares.
Between 2017 and mid-2019, Apple's stock had significant ups and down. It had multiple pullbacks of seven percent or larger, but overall managed to rally to an all-time high of $233.47. At the start of 2017, the stock was trading near $115.
From the peak, the stock declined more than 39%, reaching a low of $142 on January 3, 2019. After that, the stock rebounded aggressively, and all the while Buffett's position in the company changed very little. The objective of the investment was still based on solid fundamentals, and not on price fluctuations created by Mr. Market. The large sell-off was a period of pessimism for Mr. Market, providing prudent investors an opportunity to buy the stock ... if they agreed with Warren's outlook.
It should be noted that companies change over time, and therefore this is not a recommendation to buy or sell anything. It is an example of how prices oscillate, yet investors utilizing a Graham or Buffett type methodology will tend to stick with their stocks picks through the ups and downs, assuming the long-term outlook is still favorable.