Howard Marks is the founder of Oaktree Capital Management. His investing style can be broadly described as value investing with a focus on outperforming competitors in bad market conditions by limiting downside risk. Marks can be described as the Warren Buffett of Alternative Investments. With respect to Buffett, Howard Marks started Oaktree rather late in his working life and rose to popularity only recently, mostly because of the extremely good performance of Oaktree funds during the 2008 financial crisis.
The Most Important Thing summarizes the investment philosophy of Marks. Indeed, there are many “Most Important Things” and no easy shortcut to investment success. Readers will not find any technical insight nor will Marks reveal any sort of magic formula to make money quickly (spoiler: the formula does not exist). Nevertheless, this book does a good job of explaining the philosophy behind Howard Marks’ thought process and Oaktree's success.
Although sometimes repetitive in its explanations, I think this book can be a good addition to anybody interested in value investing and/or long-term oriented money management.
Below is a summary of what I think the book delivers in regards to Howard Marks' thought process behind the following:
Investment Philosophy:
Inefficient markets still exist but can only be found in private debt and equity: publicity traded stocks are followed by too many analysts with similar access to information which makes the market difficult to outperform consistently. Value investing is based on discipline, patience, and courage of being contrarian. Growth investing is seen as more prone to the last fashion and more difficult to successfully implement in the long run.
Everything is about relative value. Indeed, investment is the discipline of relative selection, which means that there is nothing absolutely right or wrong, in terms of price. Finding bargains is about their relative value to their intrinsic value. The superior investor never forgets that the goal is to find good buys, not good assets.
On Risk:
Risk can be viewed as a function of price: the higher the price paid for an asset, the lower the prospective return and the higher the risk of loss.
Risk is defined as the possibility of permanent loss. Correlation is often overlooked by naive investors but it remains one of the most important risk metrics to monitor. Marks draws significant materials from Fooled by Randomness by Nicholas Taleb in the section on risk and probabilities. I suggest reading that book to have a more clear understanding of what Makes really means when he quotes Taleb.
Being aware of risks is the first step in controlling risk. Oaktree invests in distressed debt and other risky assets but has had only one or two defaults in its entire history. Avoiding losers is thus seen as a winning strategy by itself.
Most importantly, being aware of what cannot be known (the Socratic mantra of knowing of not knowing) is one of the “Most important things” that Marks stresses out in this book.
On Market Cycles:
Cycles are important and will inevitably happen over and over. They will not happen in the same way but they will bear resemblance to previous ones. The most important of these cycles is the credit cycle. Another favorite saying of Marks is true: “History does not repeat itself but it does rhyme (Mark Twain).”
Psychology plays a big role in investor behavior and in the bubble/bust process. For those who are enrolled, Marks draws a lot from the Curriculum of CFA Level III on behavioral finance.
Skepticism is important but it should not be mistaken for pessimism. This means that skepticism calls for pessimism when optimism is excessive but it also calls for optimism is pessimism is excessive.
We cannot predict the exact magnitude of the cycles and when they will end or begin but we can try as investors to understand where we are currently standing on the cycle. This can be done by analyzing the technical and behavioral measures of investor's activity.
On self-awareness:
Investing defensively is synonymous with having a wide margin of error. The best margin of error is buying at a price low enough. Moreover, excluding losers is more important than chasing winners, even if it is less glamorous.
Avoiding behavioral pitfalls is increasingly important. Cognitive errors (incorrect interpretation of information or technical mistakes in general) and emotional biases (behavioral biases proper of human nature as greed and fear and many others, which are more difficult to correct). This topic is also present in the CFA Level III curriculum.
Beware when “Too much money are chasing too few deals”. This is another saying that Marks likes to repeat (he also recently published a memo with the same title). When too much capital is available, prices of assets are pushed up and more and more risky investments are considered acceptable by yield-hungry investors. This situation is often a prelude for a downturn and should be identified (and participation in it avoided) by the savvy investor before it is too late.
The bottom line is there are a lot of “Most Important Things” but what is really important is the consistency of thoughts and focus on reducing the risk of loss in bad years for long-term performance rather than chasing the next popular superstar company for outsized returns for short-term gains.
Written By: Edoardo Cicchella
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