From Neue Zürcher Zeitung's TheMarket.ch, February 3:
Greed and fear are powerful drivers in financial markets. Few understand their impact better than Howard Marks. In this interview, the renowned value investor explains why market excesses keep happening, shares his thoughts on the current hype around artificial intelligence, and reveals where investors might find bargains.
Stocks have kicked off the year on a strong note, fueled by a great deal of confidence. The prospect of business-friendly reforms under the new Trump administration and groundbreaking advancements in artificial intelligence have sparked optimism, particularly in the US. However, valuations are inflated, and the market is heavily concentrated in just a few superstar names.
Is it a bubble?
Few people are better qualified to address this question than Howard Marks. When the co-founder and co-chairman of Oaktree Capital Management speaks, investors around the world are listening up. His memos, which he sends out sporadically to Oaktree’s clients, are required reading, even for Warren Buffett.
In an in-depth conversation with The Market NZZ, the renowned value investor talks about why market bubbles keep forming and how to spot them. He also shares his take on the current market environment, where he sees potential risks, and where it might be worth looking for bargains.
and if you don’t understand the difference, you shouldn’t be an investor»
: Howard Marks.
The title of your latest memo is «On Bubble Watch». How do you define a bubble, and where do you think investors should be wary of one?
A bubble, much like a crash, is more a state of mind than a quantitative calculation. While some may define it as a period of extraordinary high prices, I believe that’s insufficient. A real bubble is more than just a financial miscalculation, where people make the mistake of overpaying for something. It goes beyond that to a psychological extreme. It’s a mania where people’s psyche gets engaged, their interest in something becomes excessive, and they lose their reason.
How is it even possible for such excesses to happen?
A bubble usually surrounds something new. The newness is very important because it gets people excited, and it defies precedent. This pattern is observable throughout history. For instance, the 1630s craze in Holland was over recently introduced tulips, and then the South Sea Bubble of 1720 in England was fueled by enthusiasm for new trade opportunities. I learned this lesson early. When I came into the investment business in 1969, it was during the «Nifty Fifty» bubble, which centered on the stocks of the best and fastest growing companies in America.
And what did you learn at that time?
It’s as they say: experience is what you got when you didn’t get what you wanted. The Nifty Fifty companies benefited from their involvement with areas of innovation such as computers, drugs, and consumer products. They were considered to be so good that nothing bad could ever happen, and people thought there was no price too high for these stocks. But if you bought them on the day I started my first job, they were so many times overpriced that, five years later, you would have suffered a 95% loss on your investment.
In other words, a good company is not necessarily a good investment?
That’s the key lesson. Investing is not about buying good things, but about buying things well – and if you don’t understand the difference, you shouldn’t be an investor. The next step in my career led me to high-yield bonds. Now, I invested in the worst public companies in America, but I made money steadily and safely because I was buying them so well. This shows what is at the heart of a bubble: there is nothing so good that it can’t become overpriced and dangerous. Conversely, there’s almost nothing so bad that it can’t be a good buy at a low enough price.
But here’s the problem: bubbles are glaringly obvious in hindsight, but rarely so when they’re unfolding. In efficient markets, they shouldn’t even exist.
The idea that the market is always right is crazy. When I studied at the University of Chicago, Eugene Fama had just introduced his pioneering work on the efficient-market hypothesis. However, as I noted in my 2001 memo, «What’s It All About, Alpha?», my real-world experience soon taught me that the market is not always right. Consider this: The day I started work, Xerox was trading at, let’s say, $100. Five years later, it had plummeted to $5. It’s hard for me to accept that those prices were both right. And yet, I am very comfortable with the concept of market efficiency.
How come?
In its essence, the efficient-market hypothesis says that the other people in the market are intelligent, highly motivated, and hard working. So why should they leave bargains around for you to pick up? The point is, the market does a good job of instantly incorporating all the available information. That’s what today’s price is: it’s an accurate, efficient reflection of the consensus opinion. But that opinion can be wrong – and that’s what bubbles are: profound mistakes, driven by psychological extremes, allowing prices to depart from sanity.
How significant a role does government intervention play in creating such distortions? Notably, in a memo from last fall, you expressed concerns about the increasing interventionism of central banks and governments.
One of the big divisions in life is that there are people who think the government can solve the problem, and there are people who think they cannot. The first are the Democrats, and the second are the Republicans. But eventually, the laws of economics will always win out. Right before the peak of the dotcom bubble, for example, there was a period of Fed activism. The Fed thought if there was ever any problem, you just squirt in a little extra liquidity and then the problem is solved. This belief led them to preemptively flood the banking system with liquidity in anticipation of the so-called Y2K bug threat, which was expected to disrupt computers when the calendar flipped from 1999 to 2000. However, such fears proved to be greatly exaggerated. As a result, the Fed solved an imaginary problem....
....MUCH MORE
