Guru Howard Marks (Trades, Portfolio), chairman of Oaktree Capital (OAK, Financial) and distressed debt specialist, was interviewed at Wharton in April. The full video is below.
Warren Buffett (Trades, Portfolio) has said that Marks' famous memos are the first thing he reads as they arrive in the mail. His new book "Mastering the Market Cycle" will be released Oct. 2. I can't wait to get my hands on it.
Here are the five key subjects Marks talked to the Wharton students about.
Cycles
Cycles are one of the most important things in the world. However, it is a big mistake to think of cycles in terms of regularity, Marks said. He used the Mark Twain quote to explain why: "History doesn’t repeat, but it does rhyme."
This means that although cycles are inevitable parts of life, the date they will occur or their magnitude can't be predicted very well. People who rely on the regularity of cycles too much miss out on gains because they get the timing wrong. This is consistent with Marks' memos where he advocates for continuing to invest but upholding standards of investment relating to valuation.
Doing nothing
Oaktree Capital had been criticized around the time of the interview because it didn't grow assets under management while peers were raising a lot of money, but it had a 17% internal rate of return on its distressed debt funds with an unlevered strategy over a 30-year time period. How does Marks say you can keep an organization going when its business is out of favor for 70-80% of the time?
You have to hire people who are oriented to the long term.
You have to hire grown ups.
You set up a physical and financial structure that makes it easier for people to sit out for long stretches of time.
Correction coming?
"We talk about a correction, but we shouldn’t have so much hubris knowing when it will happen," Marks said.
Marks talked at length about the possiblity of a correction or crash and the difficulties with anticipating it. He took some issue with the baseball analogy of "which inning are we in?" And he didn't answer it in a straightforward way.
But he did talk about the cycle. First, he used another analogy: human aging and demise. Just about everybody dies by about 114. We get more and more people who live past 100. We don’t know why people don’t live past 114, but they don't. If you put up money for a cruise on your 116th birthday, you are probably wasting your money.
He then contrasted this to the current economic recovery, which is the third longest in history. If it goes another year, it will be the longest in history. There are no laws of nature or physics at work here. It can go another one, two or three years.
Private equity
I'm invested in Oaktree Capital but also some of its competitors. Marks' thoughts on the industry were very informative although not necessarily bullish.
He believed there is probably too much dry powder in the private equity industry. It is not a big thing anymore for the big firms like Blackstone (BX, Financial) or KKR (KKR, Financial) to raise $20 billion for a fund. There are estimates that there is $1.7 trillion in dry powder in private equity. Private equity tends to lever three to four times.
Marks described Oaktree as finding itself in a hiatus. There were no bargains to buy in terms of valuation. Oaktree remained a net seller. Oaktree has had $100 billion under management for years and Marks didn't think it was the right time for the firm to increase its assets under management.
Luck and future returns
Howard Marks (Trades, Portfolio) is a very modest man, and he doesn't take a lot of credit for building Oaktree Capital. He contended that he was lucky to be at the right spot at the right point of time. There is some truth to that no doubt, but he didn't mention the fact that others had opportunity fly in their faces but never recognized it.
He described how high yield was viewed when he got into it:
- There was no history, central trading history or performance data.
- It had a dirty name.
- Most people never heard of it.
- Ninety percent of organizations had a rule against owning bonds below A or B.
- Moody’s rated junk bonds as "fail to possess the characteristics of a desirable investment."
- People found the junk market unseemly.
With all these bad marks against it, it was possible to find a bargain there. Today, when everyone knows everything, where are the returns going to come from? Blackstone and KKR first raised roughly $250 million. At the time of the interview, they were raising 100 times that. They probably won’t invest it as well as they did the first $250 million, Marks said.
Disclosure: Author is long OAK, BX and KKR.
