Geoff Gannon

On Ben Graham, Bank Stocks, Jason Zweig and Tom Brown

Regarding going long the preferred and short the common – I suppose Graham would call this a related hedge in all cases (when he wrote “related”, he just meant he wasn’t hedging by shorting another company, or a basket of stocks – like an ETF today).

However, Graham’s operations involved convertible senior securities. He did, however, do a lot of other long/short combinations in a do it yourself kind of way. Most notable was when he bought DuPont and shorted GM, when DuPont owned a lot of GM, thereby buying DuPont for next to nothing regardless of how GM traded. The most common opportunity for this kind of operation today is when a smaller, faster growing partial IPO goes through the roof while the larger, slower-growing parent initially holds a lot of its stock in the new entity.

I almost mentioned the idea of trading a company’s debt one way and the common the other in this post – however, I decided Graham would never do that in the current environment, because the possibility of bailouts, gov’t assistance, etc. could make the debt too unresponsive as your common got crushed. If this wasn’t the case, Graham would probably look for situations in which he thought you could somehow hedge the risk of a financial collapse while betting that, absent a total collapse, the common was way too cheap.

Anyway, if the preferred was convertible, then yes that fits Graham exactly. If not, I’d still say it’s a related hedge; but, it’s not quite what Graham did.