Howard Marks, a billionaire, value investor and Oaktree Capital Management, says people like to ask him what it is, not baseball. In 2008, this question meant that everyone wanted to know how long the financial crisis will end. Now, as the stock market reaches a high level, they want to know when the bull market will last.
Max is a prestigious investor on Wall Street and the founder and co-chairman of Oak Capital, the world’s largest non-performing asset investment institution. He foresaw the subprime crisis and the dotcom bubble, investors in the latest issue of series of columns Wharton ( Wharton Investor Series ), he said. “I have been saying, ‘We have entered the eighth inning’ for some time A year ago, I realized that there was a problem with this term. This is not baseball. We don’t know how long this game will last.” In the investment, the game may go to the ninth inning, or even longer.
On January 26 this year, the Dow Jones Industrial Average hit a record high of 26,616.71 points, rising nearly 5,000 points in just one year. The Standard & Poor’s 500 Index and the Nasdaq Composite Index also hit record highs this year. Although the three indices have been falling since then, stocks are still not cheap compared to the historical average. At the same time, the US unemployment rate is as low as 4.1%, and the strong economy provides optimistic prospects that may keep stocks high for some time.
“The current economic recovery is the third longest in history. If it is another year, it will be the longest in history, but this is not to say that the stock market cannot continue to rise,” Max said. “There are no natural laws or laws of physics here. So it cannot be said that it can last for another year, two years or three years. Any situation is possible.”
But Max has pointed out in his usual vigilance that no economic recovery has lasted for more than a decade. The US economic recovery has entered its ninth year. Although there is no clear reason why the economic recovery cannot set a new record, Max said that this may be one of the historical limitations that persist, the same as human life. “Almost every longest-lived person died at the age of 114. More and more people have lived through the age of 100. However, almost no one can live over 114. We don’t know why, but this is the rule.”
Max said that when the stock market really falls, don’t naturally think that a crash will occur. Investors are expecting stock market volatility in the near term as they experienced a major economic downturn after the dotcom bubble burst and the subprime crisis. But they should see a longer history. “In the past ten years I have experienced, there have been many small booms and corrections. Don’t think that there will be a bubble collapse.”
Max said that the bubble is marked by the existence of “bubble-thinking”, and investors understand a little truth and then invest in it. In the late 1990s, “the truth is that the Internet will change the world, people absorb this truth, and then expand to… If you invest in an Internet or an e-commerce company, you may make a fortune because the Internet will change the world. As a result, you paid A heavy price.”
The Internet has indeed changed the world, but nine of the 10 Internet companies are ultimately “worthless.” Failed Internet companies include once-popular names such as eToys, Pets.com, and Webvan. “When people separate the considerations of value and price in their speech, things have lost their standards, and when they slip into eternal, this is a bubble. So if you hear people say that price is not important, there is no high price. Then I think you are in the bubble.”
Bubble thinking has emerged in history from time to time. Marks recalled that he worked as a summer worker at Citibank’s investment research department in 1968. Investors were very keen on Nifty Fifty, the 50 US blue-chip stocks including IBM, Xerox and Coca-Cola. He said that these stocks are sold at a “high price” of 80 to 90 times the price-earnings ratio. In contrast, the average P/E ratio (P / E) of the post-war S&P 500 index is about 16 times.
Despite the high prices, many investors like to hold these stocks. The reason is, “If the price is a little higher, what about it? The price is growing so fast that it will be worth the price,” Max said. But it turns out that investors who bought these shares in 1968 and held them for five years will lose 97% of their principal. What is the lesson? “The price is really important,” he said.
Today, investors have a soft spot for the so-called five stocks of FAANG: Facebook, Apple, Amazon, Netflix and Google (Facebook, Apple, Amazon, Netflix and Google). Based on past 12 consecutive months of earnings, their P/E ratios are 30, 18, 234, 246 and 58 respectively. Max said in a well-known memo ( memos ) sent to customers that he did not call on investors to sell or buy these stocks. Instead, he said that deifying a group of “super stocks” is a sign of a bull market. “In a cautious, pessimistic, and sober market, FAANG stocks will not be treated as they are now.” This means that the market is not cheap.
Value will never be outdated
What if the cheap stock is hard to find? If investors want to continue to make a profit, this is very important – “There is only one sensible form of investment, which is to figure out the value of a stock and try to buy it at a lower price,” Max said. “From this perspective. It’s no different to say that bad debts are the oak’s specialty, that is, buying companies in trouble.”
Warren Buffett, a value investor who is also a billionaire, told Max that he likes to buy when the company is “weed instead of flowers.” Oak also believes in such bad assets, and once they recover, they can sell profit. But investors should not buy after the price has stabilized, so as to avoid the catching a falling knife like Wall Street? “The problem is that once stabilized, prices will rebound. We have to buy when the stock market is upset, and the knife is still falling. I think the refusal to catch the fallen knife is rationalizing the inaction,” Max said.
However, in this long-term bull market, investment opportunities with “falling knives” that turn around are likely to be scarce. “We are in a state of suspension now, no fun. When we can’t buy bargains, we are not happy,” Max said. With few good trading opportunities, Oak has been keeping its portfolio size at $100 billion for four years. “Now is not the right time for us to increase our investment.”
But once the market cycle turns, Oak is ready to jump in. “Cycles are one of the most important things in the world,” Max is writing a book on this topic. It is important to recognize and determine “our current situation and future direction” when it happens. The reasons behind the cycle and their timing, duration, speed, level of intensity and magnitude are different. Therefore, those who are overly dependent on the participation cycle at a given time “are often in trouble because they either predict too much or miss it.”
But even if people can’t predict accurately, the cycle will happen regularly throughout history. “Most of the things in life are cyclical,” Max said. In the market, “When there is too much money, too little risk aversion, too little fear, too much enthusiasm, etc., you can feel that there will be a turning point – you are about to reach the top and you must get some corrections.”
Oak saw these signs and patiently waited for the opportunity. In the past 30 years, this disciplined strategy has paid off, with an average internal rate of return of 17% per year and no debt. In contrast, the annual return on the S&P 500 index during the same period was about 10%. Max pointed out that without the bargain-hunting opportunities in the 1990-1991, 2001-2002 and 2008 downturns, the returns would be much less.
But all these waiting for opportunities will have major management challenges. “When 80% of the time business is not dominant, how do you keep an organization growing? 60% of the time?” Max said. “The answer is, first of all, you have to hire people who have a long-term perspective and don’t need instant gratification… you need maturity. We must hire people who are mentally mature.”
Max said that Oak has also created a culture that encourages long-term thinking. “There are years… when we don’t make much money. No one will cut their pay. No one who does a good job will be cut,” he said. “And we don’t just pay according to the performance of the year, we try to build a long-term work and financial environment .”
Negative passive investment
There is another investment trend affecting Oak and other active investment managers: the shift to passive investment. In active management, fund managers must conduct proactive analysis before strategic betting. In passive investment, funds are invested in index funds, or funds that automatically purchase all securities in the index, as well as exchange-listed funds (tracking index securities). Why do many investors flee active investment? “The main reason is that the cost is high and no money is earned,” Max said. “Most active investment managers do not perform as well as index funds.”
Hedge funds have lost their brilliance especially in the eyes of investors. Max said he wrote a memo in 2004 that predicts that average hedge funds will earn between 5% and 6% a year. Ten years later, Barron’s Weekly told him that they were writing an article about the memo because the average hedge fund return for the past decade was 5.2%. “The hedge fund industry has already lost,” Max said. “Ultimately, people get tired of paying 2% + 20% of their profits and earning 5% or 6% of their profits.”
But passive investment also has drawbacks. Max said that a customer at Oaks called him and said that the new finance director of the company wanted to invest all of his investment in the index fund. “I said that if he invested all his money in an index fund, no one would consider which stocks, stocks should be included, or how they should be weighted, what would he feel? It’s too extreme.”
Max said that the shift to passive “the biggest irony” is that the weight of the stocks listed in the index is artificially determined. “The assumption of passive investors is that they win because active investors are idiots. However, passive investors act by emulating decisions made by people they think are idiots. This is totally unreasonable. This is passive investment today. We must think twice about this .”
Harder to get a return in the future
In Wharton’s furnace chat, Max reviewed his successful investment career for half a century. What he learned is that, unlike marriage, “not to use emotions is very useful in the investment community.”… You make big money in this world, everyone is happy, no one can think of anything that might go wrong, everyone I think that trees can be freed from the market when they grow to the top. “This is the time to sell. The market collapses and everyone is pessimistic, this time to buy.”
Max also caught up with the birth of a high-yield or junk bond market. “As early as 1978, I received a call to change my life.” At that time his boss called him and said that there is a “man in the state of California called Milken, who is doing a deal called high-yield bonds.” Can you figure out what this is?” Junk bonds are the debt of a troubled company, and Michael Milken is believed to have created the multi-billion dollar securities market.
At that time, there was little information about junk bonds. Max said that about 90% of investment institutions have provisions against the purchase of bonds with a rating lower than “A” or three “B”. In fact, credit rating agency Moody’s defines “B” bonds as “failure to have the ideal investment characteristics”. “In other words, this is not a good idea.” Another opportunity is that 40 years ago, investors thought that even if they could make money, buying troubled corporate bonds would be “not appropriate.”
But today, high-yield bonds have become a common investment in data. “No more ignorance can be exploited,” Max said. “And there is no more scruples… Anyone will do anything to make money.” Everyone is working hard to get the best return, and good deals become rarer. “It’s hard, maybe I’ve made a lot of money from high-yield bonds, hedge funds, or private equity,” he said. “But the world has become smarter and you have to work harder than I used to be.”