Howard Marks, a founder and principal at Oaktree Capital, is considered a legend in investing. He also writes a memo regularly describing how he sees the world, economic environment, own investing philosophy, and many other things.
While each of his memos is to be savoured, a one particularly interesting one is from April 2007. It is nothing less than a masterclass in investing revealing some of his own journey and how one should look at / evaluate investment opportunities.
The memo is titled “Everyone knows” and that’s just the crux of it. If everyone knows, then it is not worth it. I will share some excerpts. You can read the full memo here.
…most people don’t understand the process through which something comes to have outstanding moneymaking potential. And second, the very coalescing of popular opinion behind an investment tends to eliminate its profit potential.
Going further, he states,
There’s no such thing as a good idea. Only a good idea at a price.
How Money is Made?
Large amounts of money (and by that I mean unusual returns, or unusual risk-adjusted returns) aren’t made by buying what everybody likes. They’re made by buying what everybody underestimates.
… .successful investors are said to spend a lot of their time being lonely.
If you believe that you can buy a stock for its quality and ‘at any price’, then you are essentially going for safe and that’s the kind of returns it might end up providing. You are giving up on the risk premium or reward for taking a risk.
Paradox is that more people think risk is in the quality than in the price….
This paradox exists because most investors think quality, as opposed to price, is the determinant of whether something’s risky. But high quality assets can be risky, and low quality assets can be safe. It’s just a matter of the price paid for them.
The Unhelpful consensus
The bottom line is that what “everyone knows” isn’t at all helpful in investing. What everyone knows is bound to already be reflected in the price, meaning a buyer is paying for whatever it is that everyone thinks they know. Thus, if the consensus view is right, it’s likely to produce an average return.
Recency bias lives in every mind…In 1990s, almost every institutional investor and consultant, when asked about future equity returns, would say “11%”. How did that number come to be? Recent results.
In the 2000s, when asked, the number was “7%”. Is that going to be right?
I have a different way looking at returns… i would expect a 50% or as risk reward on a guaranteed return safe investment such as a 10 year Govt Bond. The relative reference is more likely to stick around in time.
Don’t ask for “what’s the return for stocks”? Instead ask for what’s the return for stocks at a given valuation?
…the return on an asset is dependent on the price you pay for it.
Two years ago, the herd knew residential real estate was a can’t-miss way to build wealth. “You can live in it,” “it’s a hedge against inflation,” and “they’re not making any more land” were oft- recited mantras . . . just as they had been in the mid-1980s (See “There They Go Again,” April 2005). After ten years of rapid appreciation, owners of condos felt they had it made, and non- owners felt they were on the outside looking in. People lined up to put down deposits on condos that hadn’t been built yet, and many assembled portfolios that way.
No one talks that way anymore.
Insisting on buying value and controlling risk can seem awfully dowdy at times, but for us, there is no other way.
There is no other way for us either.
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