Timely guidance for stock market investors

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Subscribe to enjoy similar stories. I am sure most of you may not have heard of Edgar Lawrence Smith. It is unfortunate, though.

I think he deserves to be more famous than he is currently. Edgar Lawrence Smith's book Common Stocks as Long-Term Investments was published exactly one hundred years ago. Now, here's the interesting bit.

He is one of the few authors who changed the central message of his book upon realizing that the original message had flaws. Yes, that's right. While going in, Edgar wanted to argue that stocks perform better than bonds during inflationary periods and vice versa during deflationary periods.

Let me repeat that. Edgar believed that stocks outperformed during inflationary periods, whereas bonds performed better during deflation. However, when he looked at the data, he was in for a shock.

The facts did not support this theory. He was unable to find any 20-year period during which bonds outperformed stocks. It was always stocks outperforming bonds.

Edgar was proven wrong. He, therefore, had to start his book with a 'mea culpa' or a confession, if you will. He admitted that he had failed to prove his theory with facts.

Luckily for us, this failure led him to evaluate stocks more deeply, which eventually gave birth to a profound insight. This insight that came to Edgar was quite simple. He observed that well-managed companies do not distribute their entire profits as dividends to shareholders.

In good years, if not in all years, these companies retain a part of their profits and put them back into the business. Let me explain with numbers. If a company earns ₹100 as profits, it does not distribute all of it as dividends.