Ben Graham Valuation Formula-Insight into his thoughts?

by hihih222

Graham’s valuation formula implied that 8.5x was the correct multiple of earnings for a no-growth company. At the time Graham wrote his books, treasury yields were about where they are now, 2%-4%. Assuming a company has 0 debt, a simple way to calculate no-growth valuation is IV=(Earnings,FCF,etc)/Cost of Equity. Really, what this means is that given 0 debt, a company’s no-growth value can be dumbed down to a multiple of earnings that changes depending on interest rates and the riskiness of the stock being considered. 8.5x earnings implies a cost of equity of 12% for the general no-growth and no-debt company. Considering interest rates were at 2% to 4%, Graham was implying that equities with no debt deserved a risk premium of roughly 9%. I don’t know about you but to me that seems a little excessive, and it explains why Graham was often depicted as being extremely conservative and paranoid about the markets.

Just a random thought.

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