Howards Marks, the chairman of Oaktree Capital, is one of The Value Perspective’s favourite investors while his 2011 classic The Most Important Thing is one of our favourite books.
As such we were always going to fall upon his latest work, Mastering The Market Cycle: Getting the Odds on Your Side, the moment it was published last month.
Rather than offer a traditional review, however, we will continue our practice of highlighting the ideas that most interest us about the books we read – or, in this instance, the five messages that underpin how we believe people can best approach investing.
Yes, we concede there is a certain amount of confirmation bias in what follows but, given Marks’s success as a value investor, we feel we are in excellent company.
The macro is unknowable
“Very few investors are known for having outperformed through macroeconomic forecasting. It is not that macro does not matter – rather that very few people can master it. For most, it is just not knowable.”
Financial commentators love talking about big economic ideas such as inflation, say, or the policies of the world’s central banks yet, as value investors, we prefer to focus on more knowable elements, such as a business’s share price and balance sheet.
It is therefore good to hear such words from an investor who has enjoyed a very long and successful career without ever worrying about macroeconomic issues.
Think in terms of probabilities
“Investment success is like the choosing of a lottery winner. Both are determined by one ticket (the outcome) being pulled from a bowlful of tickets (the full range of possible outcomes). In each case, one outcome is chosen from among the many possibilities.”
The idea that investing is ‘probabilistic’ is a recurring theme, here on The Value Perspective, but it tends to be missed by the wider market, which prefers to focus on a particular outcome rather than acknowledging the full range of possible outcomes that could come to pass.
As such, as we observed in No regrets, investors need to think not in terms of black and white or right and wrong, say, but in terms of probabilities.
The old rules still apply
“Cycles are inevitable. Every once in a while, an up-or down-leg goes on for a long time and/or to a great extreme and people start to say, ‘This time it’s different’. They cite the changes in geopolitics, institutions, technology or behaviour that have rendered the ‘old rules’ obsolete. They make investment decisions that extrapolate the recent trend. And then it turns out that the old rules do still apply.”
These words – from someone who has invested profitably through many market cycles – should be a caution any time you are tempted to think, this time, the game really has changed.
‘This time’, investors apparently believe they will be OK paying over the odds for stocks because ‘business quality’, say, or ‘the power to disrupt’ mean it is fine to buy in at any price.
Not if you want to make money in the long term, it isn’t.
Scepticism does not equal pessimism
“Scepticism and pessimism are not synonymous. Scepticism calls for pessimism when optimism is excessive. But it also calls for optimism when pessimism is excessive.”
Value investors are rarely viewed as being the life and soul of a party – a reputation we can live with.
Where we would take issue, however, is with the idea that because we are sceptical about every potential investment, it means we are perennial pessimists.
Sure, value investors may well look pessimistic when they sell when others are being greedy but, by the same token, we need to be optimists to buy when others are fearful.
The greatest source of investment risk
“What’s the greatest source of investment risk? Does it come from negative economic developments? Corporate events that fall short of forecasts? Companies whose products become uncompetitive? Earning declines? Low creditworthiness? No, it comes when asset prices attain excessively high levels as a result of some new intoxicating investment rationale that can’t be justified on the basis of fundamentals and that causes unreasonably high valuations to be assigned.”
To that, we have nothing to add – except, perhaps, ‘Full Marks’.