Howard Marks on the Truth About Investing

Howard Marks (Trades, Portfolio) is one of Wall Street’s most astute value investors. He is known in the investment community for his Oaktree memos to clients, which detail investment strategies and insights on the economy. These memos are always highly informative as Marks has an unrivaled view of Wall Street. His Oaktree Capital invests in distressed assets, the very essence of value investing, and in 2008, Oaktree raised $10.9 billion from investors, making it the largest distressed-debt fund in history. Oaktree’s 17 distressed debt funds have achieved annualized returns of 19% per annum after fees for the past 22 years.

With such a wealth of experience behind him, it always pays to listen to Marks on investing. One of his more recent presentations took place earlier this year when he explained to an audience of CFA analysts in India the so-called “truth about investing.” Here are some extracts from the presentation.

On why valuation matters:

“I cut my teeth by joining the equity research department of Citibank (C, Financial) in 1968, and the bank practiced something called ‘nifty fifty investing,’ and it invested in the best 50 companies in America, companies where it was believed nothing could go wrong…so any price was OK, if the price was a little high, you’d grow into it. If you were smart enough to invest in Merck (MRK, Financial), Avon (AVP, Financial), Coke (KO, Financial), Texas Instruments (TXN, Financial) and HP (HPE, Financial), if you were smart enough to hold those companies for five years, you lost 80% to 90% of your money...These were companies where it was believed nothing could go wrong; the list included Kodak (KODK, Financial), IBM (IBM, Financial), Polaroid, Xerox (XRX, Financial) and AIG (AIG, Financial), all of those companies either went bankrupt or flirted with bankruptcy…these were companies that were great in 1968, nobody thinks they’re great today…I think this was the most important lesson in my life."

“I was fortunate to learn this very important lesson early: you invest in the best companies in America, and you lose all your money.”

“Ten years later I was buying junk bonds; I went from investing in the best companies to the worst. This taught me that investing is not a matter of what you buy, it’s what you pay. Investing is not a matter of buying good things but buying things well. You have to understand the difference between these two things.”

On knowing the unknowable:

“We can make decisions based not on what we think we know is going to happen in the future, but what is going on today… the most important choice any investor can make in the medium term is to be aggressive or defensive, not whether to buy stocks or bonds. But is this a good time to be aggressive or is this a good time to be defensive? I believe that this decision can be made based on observations regarding current conditions. It does not require guesswork about the future.”

“You should not act the same regardless of the market environment, you should turn aggressive when there are bargains and defensive when everything is high. And when there is nothing else to do, it is a mistake to try and be smart.”

On going against consensus:

“The big gains arise when consensus turns out to have misestimated reality. To be able to take advantage of such divergences, you have to be to think in a way that departs from the consensus; you have to think different and better: this goal can be described as 'second level thinking' or 'variant perception.' The key to outperformance is to think different and better.”

“My son, when he was a student in college studying finance, he would come to me, he would say 'Dad, we should buy Ford (F, Financial) because they’ve just come out with a great new Mustang.' My question to him, which was intended to be instructional, 'Who doesn’t know that?' If you are investing on a fact that everyone knows 1) it can’t possibly be constituted as an advantage, 2) it can’t possibly have been omitted from the price.”

 Am I the only one that knows this?

“Any time you think you know something others don’t, you should examine the basis for that belief. ‘Does everyone know that?’ ‘Why should I be privileged to exceptional information or insight?’ ‘Am I certain I’m right, and everyone else is wrong, might it be the opposite?’ If it’s the result of advice from someone else, you must ask why would anyone give me potentially profitable information.”

On emotion:

“It isn’t the inability to see the future that cripples most efforts at investment. More often it’s emotion. Investors swing like a pendulum—between greed and fear; euphoria and depression; credulousness and skepticism; and risk tolerance and risk aversion. Usually, they swing in the wrong direction, warming to things after the rise and shunning them after they fall.”

“It is important to be counter-cyclical.”

Disclosure: The author owns no stock mentioned.

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