What is a margin of safety?
A margin of safety is the gap between a company's estimated fair value and the price the market is charging for its shares. When the price sits well below the estimated value, that cushion absorbs mistakes and bad luck. The idea, from investor Benjamin Graham, is to leave room for being wrong about the estimate.
The margin of safety matters because every valuation rests on assumptions that may turn out too optimistic. If a stock is worth an estimated $100 and trades at $60, the 40% cushion means the estimate can be off by a fair amount and the investment can still work out. If it trades at $98, there is almost no room for error.
For an everyday reader, the concept is a reminder that a good company and a good investment are not the same thing; price matters. A wonderful business paid for at too high a price can still be a poor outcome, while an ordinary business with a wide enough cushion can be a sound one. The wider the gap between value and price, the more protection there is.
| Cushion | What it means |
|---|---|
| Large | Price sits well below the estimated value, leaving room for error. |
| Slim | Price is close to the estimated value, with little protection. |
| Negative | Price is above the estimated value, so the market is more optimistic than the estimate. |
Frequently asked questions
How big should a margin of safety be?
There is no fixed rule; more conservative investors look for a larger cushion, sometimes 30% or more below their estimate of fair value. The riskier or less predictable the business, the wider the margin many investors want.
Where does the idea of a margin of safety come from?
It was popularized by Benjamin Graham, often called the father of value investing, and later echoed by Warren Buffett. The core principle is to leave room for error because no estimate of a company's worth is ever exact.