You should have the ability to know when he makes a stupid move and you should be able to capitalize on that. 'Margin of safety' being the difference between the price and the value, it gives you a cushion. With a high margin of safety, you pay, so to say, Rs 50 for a 100 rupees note.

Buying in that situation heavily stacks the odds in your favour. On the other hand buying a stock without adequate margin of safety, or zero margin of safety exposes you to great risk, and makes your investment no better than a bet or a gamble.

This would be so even if the company you have invested is a blue chip company. The underlying company would do well but the investor would still burn his fingers.

Graham always looked for companies, which were so battered and neglected that they were sold even below their net working capital. He created a Net Current Asset Value (NCAV) model to find such bargains.

Calculate the net working capital of the company, which is the excess of current assets over current liabilities. Subtract from this all the debts whether short term or long term. Divide the resultant figure by the number of issued shares of the company. If this per share value is less than the current market price of the share, you have a margin of safety. And, you are getting the whole of fixed assets free of cost.

Graham looked for shares that offered at least 1/3rd margin of safety. While it may not be possible to find many shares meeting criteria of this high margin of safety, there are certainly some shares, which pass through this screen. I often come across shares that meet these criteria and sometimes wonder why none else noticed it before.

A larger margin of safety also takes care of your judgmental errors, and the window-dressing by the companies. While it may not be possible to calculate the exact margin of safety, (if it were an exact science, investors would have already squeezed the shares dry of the entire margin) an intelligent approximation would do the job well.

"To use a homely simile," said Graham, "It is quite possible to decide by inspection that a woman is old enough to vote without knowing her age, or that a man is heavier than he should be without knowing his exact weight."

A few caveats

First, even if you fancy on a particular share with a high margin of safety, don't bet your whole fortune on it; it may be possible that you made an error of judgment, or that the market may fail to recognize the real worth of the share during the period you hold the share.

The solution is diversification. Graham recommended ideally keeping 30 companies in your portfolio. This number could be less or more depending on how active an investor you are.

Secondly, be patient. In the short term the stock price may dip even further.

Third, when in doubt, stick to quality. Look for good quality management. In conclusion, my advice to all serious investors is to read Graham and Dodd's Security Analysis.

If you were to read only one book on investment, this is the book. It ought to be read and re-read many times over during an investor's lifetime. The low priced Indian edition, at Rs 350 is the best investment you would have ever made.