Managing your portfolio has been a highly challenging task over the past few months. Investor sentiment has been changeable, stock prices have been volatile and the economic outlook continues to be uncertain.
Oaktree Capital co-founder Howard Marks (Trades, Portfolio) has experienced many similar periods throughout his investing career. His focus on the long-term prospects for the stock market and his willingness to buy into a recovery during its early stages are likely to have contributed to Oaktree’s long-term outperformance of the S&P 500.
Ignoring trends
The stock market is currently lacking a clear trend. After rebounding from its March lows, the S&P 500 has lost around 5% of its value in the past week. Further volatility could be ahead since the current economic lockdown is an unprecedented event that is impossible to accurately quantify in terms of its impact on gross domestic product growth.
Instead of trying to identify changeable stock market trends, adopting a long-term view of a company’s prospects could be a more advantageous idea for value investors. This may require self-discipline to go against the consensus view of other investors, but it is a strategy that has previously been supported by Marks:
“There’s only one way to describe most investors: trend followers. Superior investors are the exact opposite. Superior investing, as I hope I’ve convinced you by now, requires second-level thinking—a way of thinking that’s different from that of others, more complex and more insightful.”
Contemplating risk
Value investors may currently be tempted to focus on the prospect of a recovery for the economy and the stock market, rather than the potential for further challenges. However, a recovery is not guaranteed for all stocks, nor is it a given for all industries. Some companies and industries could experience significantly reduced demand for the goods and services they supply over the long run.
Therefore, value investors should focus on the potential risks for a business alongside its return prospects. This may rule out some stocks that have relatively weak balance sheets or a lack of a competitive advantage. But, according to Marks, a defensive approach to investing can lead to higher returns in the long run:
“We have to practice defensive investing, since many of the outcomes are likely to go against us. It’s more important to ensure survival under negative outcomes than it is to guarantee maximum returns under favorable ones.”
Buying early in the cycle
The stock market’s recent volatility could make the process of buying stocks more difficult for value investors. For example, the risk of short-term losses or the potential for stock prices to move to even more attractive levels may tempt many value investors to delay purchasing stocks in the current crisis.
However, this could mean they miss out on the attractive valuations currently on offer across a range of sectors. Previous market downturns, such as the global financial crisis, have often given way after a relatively short amount of time to periods of growth and bull markets. Therefore, attractive valuations currently available for value investors may not be around for an extended period.
Marks has previously highlighted his views on acting earlier in the investment cycle than his peers:
“What the wise man does in the beginning, the fool does in the end.”
A changing outlook
Stocks that had investment appeal a few months ago may not be as attractive today. The full impact of economic uncertainty on specific industries is not yet known, and some businesses that previously had bright financial futures may struggle to survive.
A lack of clarity on the prospects for the airline industry prompted Berkshire Hathaway (BRK.A, Financial) (BRK.B, Financial) Chairman Warren Buffett (Trades, Portfolio) to sell his airline holdings in April. Similarly, Marks has previously said that selling existing holdings to reallocate capital to more appealing opportunities is a sound portfolio management technique:
“The process of intelligently building a portfolio consists of buying the best investments, making room for them by selling lesser ones, and staying clear of the worst.”
Disclosure: The author has no position in any stocks mentioned.
Read more here:
- Seth Klarman on Investing in Volatile Market Conditions
- 4 Reasons Why Charlie Munger Outperforms the Stock Market
- Warren Buffett's Tips on Analyzing Stocks
Not a Premium Member of GuruFocus? Sign up for a free 7-day trial here.
