When a veteran investor sits down to talk with a senior editor from one of the world’s top financial news organizations, the results are bound to be interesting. And that’s exactly what happened when Howard Marks, CFA, co-chairman of Oaktree Capital Management, spoke with John Authers, senior editor for markets at Bloomberg.
During their recorded conversation, which was part of the 73rd CFA Institute Annual Virtual Conference, Marks shared how his thought processes have developed over more than four decades of experience in high-yield fixed income markets. He offered six insights for investors:
- View Market Movements Constructively
Marks noted that people tend to view market activity as part of a boom and bust cycle, trying to predict future movements based on past patterns. “The cycle, is, generally speaking, it’s a series of up and down oscillations around a central trend line,” he said.
However, the terms boom and bust, and the ideas of up and down, carry connotations that can distort an investor’s perspective. Marks said, “I tend to think of them, more productively, as excesses and corrections.”
- Know What You Don’t Know
At several points during their conversation, Authers and Marks discussed the idea of “intellectual humility,” or being aware that there are limits to your knowledge. A prominent example is the current financial crisis, which is the result of a global health crisis: investment expertise is less useful when addressing a global pandemic.
“It’s so silly for an investor to build his investment conclusions around his view of what the disease holds when he knows nothing about it,” Marks said. “I would argue that you shouldn’t make it up on your own, you should look to the experts.”
- Insist on a Margin of Safety
The margin of safety has been a key concept for value investors who search for incorrect prices. “For any given investment that you consider making, you evaluate the investment relative to the underlying fundamentals,” Marks said.
Marks recommended that investors consider the company, the stability of the industry, the predictability of the industry and the company, and the lowness of the price. These qualities can define the margin of safety for an investment.
“The expert calibrates the expression of his opinion based on how firm the evidence is,” said Marks. “Similarly, I think the investor should calibrate his confidence in his investment based on how much margin of safety there is.”
- Recognize When to Get Aggressive
“Normally, we take a very cautious approach to our risk asset classes,” said Marks, who described Oaktree Capital Management as a cautious company. As he noted earlier in the conversation, investors should recognize that there are things they do not know, and caution is appropriate for dealing with the unknown.
Then Marks explained that his firm is willing to get aggressive when it is confident that it has identified good investments. “I think that toggling between aggressive and defensive is the greatest single thing that an investor can do, if they can do it appropriately,” he said.
- Be Different, But Be Correct
Marks outlined a simple approach to generating better investment returns. “If you think and behave different from other people — and you’re more right than they are, that’s a necessary ingredient — then you can have superior performance,” he said.
The approach is simple, but it’s not easy. And while it’s easy to make the same investment decisions as other managers, that doesn’t deliver superior performance. Marks warned that it’s not much better to oppose group consensus as a reflex. He said, “You have to depart from what they’re doing for a reason. Knee-jerk contrarianism is certainly not a successful strategy.”
As he put it, “Superior investing has to come from correct idiosyncratic decisions.”
- Get Comfortable with Discomfort
“I believe that every great investment begins in discomfort,” Marks said. Asset prices drop when nobody wants to buy them, meaning that investments with the largest margin of safety, or the ones with the biggest gap between their current selling price and their intrinsic value, can be the most unwanted. Holding unwanted assets is uncomfortable.
The challenge comes from enduring discomfort for a long time. Marks noted that investment decisions are never validated on the same day that the decision is made. “Many times, it doesn’t work for months, or maybe years, and one of the most important adages in our business is that being too far ahead of your time is indistinguishable from being wrong. And that’s where the discomfort comes from.”
Investors should already be familiar with uncertainty and discomfort, but they will be major components of financial markets while the world struggles to deal with the global pandemic and its associated financial crisis. Marks expects the disease and the economic impact of fighting it to last for a long time.
“This will play out over the next several quarters, if not years,” Marks said.
This year, archived recordings of every presentation from the CFA Institute Annual Virtual Conference will be available online, with additional insights and commentary published on the CFA Institute Annual Virtual Conference blog.
All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.