“When I see memos from Howard Marks (Trades, Portfolio) in my mail, they’re the first thing I open and read. I always learn something.”
- Warren Buffett (Trades, Portfolio)
Howard Marks' (Trades, Portfolio) new book, "Mastering The Market Cycle: Getting the Odds on Your Side," has finally arrived. I pre-ordered the book a while ago and was super delighted when Amazon delivered the Kindle version of the book. Like Buffett, whenever Marks writes something new, I always read it immediately and I, too, always learn something.
I’ve learned much more from Marks’ first book, "The Most Important Thing: Uncommon Sense for the Thoughtful Investor," because I was much more inexperienced and hadn’t read all of Marks’ memos back then. For those readers who’ve read Marks' first book and most of his memos, you might find quite a few familiar ideas, quotes and insights in Marks’ new book. It’s always fun and inspiring to revisit Marks' timeless wisdom. But he also generously shared the things that he didn’t know in the past and his efforts to respond to the changing environment. Of course, I highly recommend the book to everyone.
In the next few articles I’ll share my notes from the book. Everyone’s experience is different. Therefore, we may find some parts of the book particularly more relevant and beneficial than the others. From this perspective, I encourage readers to compile your own notes and write down your thoughts as well.
An understanding of cycle is near the top of the list of the most important things in investing.
In the introduction part of the book, Marks wrote the following:
"Most of the great investors I’ve known over the years have had an exceptional sense for how cycles work in general and where we stand in the current one. That sense permits them to do a superior job of positioning portfolios for what lies ahead. Good cycle timing – combined with an effective investment approach and the involvement of exceptional people – has accounted for the vast bulk of the success of my firm, Oaktree Capital Management"
My notes
Market timing is almost a taboo for value investors. Measuring where we are in the cycle and acting accordingly is entirely different from market timing. There are a few challenges in practice. First of all, there are more than one important cycles working concurrently – the debt cycle, the economic cycle, human psychology cycle, industry cycle and so forth. We can’t just understand just one cycle and “be the man with a hammer.”
Second, most of the data points we need to measure cycles are not easily available. For instance, consider what data we should use to measure market sentiments. In Marks’ previous book, he listed the following indicators:
- Economy: Vibrant neutral sluggish.
- Outlook: Positive neutral negative.
- Lenders: Eager neutral reticent.
- Capital markets: Loose neutral tight.
- Terms: Easy neutral restrictive.
- Interest Rates: Low moderate high.
- Spreads: Narrow moderate wide.
- Investors: Optimistic neutral pessimistic.
- Equity owners: Happy to hold neutral rushing for the exits.
- Equity sellers: Few moderate many.
- Markets: Crowded neutral starved for attention.
- Funds: New ones daily neutral only the best can raise money.
- Recent performance: Strong moderate weak.
- Equity prices: High moderate low.
- Respective returns: Low moderate high.
- Risk: High moderate low.
- Popular qualities: Aggressiveness neutral caution and discipline.
For us to measure the market environment, we need to find data to support our assessment. For instance, we can use the IBD/TIPP economic optimism index to measure the outlook indicator and the Thomson Reuters' PayNet Small Business Lending Index to measure lending activities. Neither index is easily available. Furthermore, once we have the data, we also need to compare it to certain benchmark so we can come up with some sort of conclusions. Again, not easily available. But we need to be alert. As Marks put it:
“Events happen equally to everyone who is operating in a given environment. But not everyone listens to them equally in the sense of paying attention, being aware of them, and thus potentially figuring out there importance. Invariably, investors who disregard where they stand in cycles area bound to suffer serious consequences.”
Third, as Marks wrote at the end of chapter two:
“The length of this chapter and the large variety of topics covered are indicative of the multi-faceted and challenging nature of cycles. For this reason, cycles have to be understood both analytically and intuitively.”
Marks also gave us clear guidance as to how to do the best job of dealing with cycles:
“An investor has to learn to recognize cycles, assess them, look for the instructions they apply, and do what they tell him to do. If an investor listens in this sense, he will be able to concert cycles from a wild, uncontrollable force that wreak havoc, into a phenomenon that can be understood and taken advantage of: a vein that can be mined for significant outperformance.”
Also in chapter 2 of the book, Marks pointed out one important yet often ignored aspect of understanding cycles:
“The events in the life of a cycle shouldn’t be viewed merely as each being followed by the next, but – much more importantly – as each causing the next. Cycles do not have a defined beginning, and I believe they will never end. ”
“Cyclical events are influenced by both endogenous developments (including the cyclical events that precedes them) as well as exogenous developments (events occurring in other areas). Many of the latter – but far from all – are parts of other cycles. Understanding these causative interactions isn’t easy, but it holds much of the key to understanding and coping with the investment environment.”
While we can read about cycles, “The greatest lessons regarding cycles are learned through experiences.” Marks reminds us:
“However, since we usually see only one major cycle per decade, anyone who’s going to rely solely on amassing of experience for his progress had better have a lot of patience. I hope what you read here will add to your understanding and speed your education.”
Read more about Marks here:Â
Howard Marks on Cycles, Downturns and Other Ways to Invest
Howard Marks' September Memo: 'The Seven Worst Words in the World'
