Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 351

Howard Marks on 'Which way now?' - UPDATED

Update on 9 April 2020

Within a week of his previous memo to clients, Howard Marks has revised his position. As he admits, he has set a personal record by issuing four updates in a month "in the total absence of guidance from analogies to the past."

He now believes the risks are a little better understood, although great uncertainty remains, and price declines have created opportunities. He says:

"Given these new conditions, I no longer feel defense should be favored. Yes, the fundamentals have deteriorated and may deteriorate further, and the disease makes for risk (remember, I’m the one who leans toward the negative case). But there’s a big difference between a market where no one can find a flaw and one where people have given up on risk-taking. And there’s a big difference between one that’s priced for perfection and one that allows for bad outcomes.”

He writes about 'cautious positioning' serving its purpose, that those with defensive positions have posted smaller losses this year and there are bargains available.

“Thus, I feel it’s a time when previously cautious investors can reduce their overemphasis on defense and begin to move toward a more neutral position or even toward offense (depending on how sure they want to be of grasping early opportunities). I’m not saying the outlook is positive. I’m saying conditions have changed such that caution is no longer as imperative.”

He is not calling the bottom of the market, as it is impossible to pick that moment.

“The bottom line for me is that I’m not at all troubled saying (a) markets may well be considerably lower sometime in the coming months and (b) we’re buying today when we find good value. I don’t find these statements inconsistent.”

Marks’ full memo called 'Calibrating' is here.

Back to the article published here last week

Howard Marks wrote his previous memo to clients of Oaktree Capital on 19 March 2020, and on Wednesday this week, he issued another one. It's a sign of how quickly the market is changing as he usually writes only once every couple of months.

In the space of 11 days, he seems far more worried. Previously, he wrote:

"Given the price drops and selling we've seen so far, I believe this is a good time to invest, although of course it may prove not (to) have been the best time. No one can argue that you should spend all your money today ... but equally, no one can argue that you shouldn't spend any. The more you want to garner potential gains and don't mind mark-to-market losses, the more you should invest here."

What's his latest view?

In his latest memo, he describes the 'quickest meltdown' in US stock market history, a fall of 34% in little over a month. It was followed by a gain of 17%, the best three-day rise since the 1930s. Amid the turmoil, 106 companies issued an unbelievable $213 bllion of investment grade bonds in a month, another record.

After his decades in the business, Marks is as well placed as anyone to assess the outlook. In his latest views, he catalogues the optimistic and pessimistic views, and reaches a vital conclusion. He starts with:

"It’s important to take time out for a serious discussion of possible scenarios. Are this past week’s remedies certain to work? Are the prior week’s negatives really erased? Which will win in the short and intermediate term: the disease, economic ramifications or Fed/Treasury actions?"

He then divides the arguments into the positive and negative cases.

Positive outlook

1. The virus will be brought under control within three months or so. He says every forecast makes the assumption that isolation, immunity, warmer weather, treatments and a vaccine will flatten and turn down the curve.

2. The negative impact of the disease on the economy will be sharp but brief. The V-shaped recovery assumes a big hit to earnings initially but an even stronger recovery within a short time, probably as little as three months.

3. The government will provide life support to the economy during a lockdown-induced coma and then bring the patient out of the coma after the cure has been effected. Recovery will be helped by improving news on the disease.

Negative outlook

Marks admits he's more of a worrier than a dreamer, with his personal defensive tendencies leading him to find more negatives than positives.

1. He is very worried about the outlook for the disease, especially in the U.S, and believes the headlines on infections and deaths will become much worse. 

"The success of other countries in slowing the disease has been a function of widespread social distancing, testing and temperature-taking to identify those who are infected, and quarantining them from everyone else. The U.S. is behind in all these regards. Testing is rarely available, mass temperature-taking is non-existent, and people wonder whether large-scale quarantining is legal."

2. The economy will contract at a record rate, millions will be out of work, company earnings will collapse, and there may even be food shortages. He questions how realistic the V-shape recovery argument is.

"I believe we’re likely to see defaults on the part of leveraged entities, based on price markdowns, ratings downgrades and perhaps defaults on their portfolio assets; increased 'haircuts' on the part of lenders (i.e., reduced amounts loaned against a dollar of collateral); and margin calls, portfolio liquidations and forced selling."

3. It will be challenging to resolve the conflict between social isolation and economic recovery. He repeats the point made by President Trump in asking whether the disease merits the severity of the cure. The longer lockdowns continue, the harder it be for the economy to recover. If a decline in new coronavirus cases leads to a resumption of activity, a second wave of infection could hit.

4. In addition to the disease and its economic repercussions, there is a specific impact of the low oil prices on energy companies.

"Due to a confluence of reduced consumption and a price war between Saudi Arabia and Russia, the price of oil has fallen from $61 per barrel at year-end to $19 today."

He then adds negative psychology, fear of more problems and the negative wealth effects to his list of worries. He is even concerned whether enough businesses will continue operating during a lockdown:

"The Treasury can make up for people’s lost wages, but people need the things wages buy. So replacing lost wages and revenues will not be enough for long: the economy has to produce goods and services."

Summing up

He makes an important conclusion, saying if it's not too late, investors should increase defensiveness in their portfolios. He says:

"In the Global Financial Crisis, I worried about a downward cascade of financial news, and about the implications for the economy of serial bankruptcies among financial institutions. But everyday life was unchanged from what it had been, and there was no obvious threat to life and limb.

Today the range of negative outcomes seems much wider, as described above. Social isolation, disease and death, economic contraction, enormous reliance on government action, and uncertainty about the long-term effects are all with us, and the main questions surround how far they will go.

Nevertheless, the market prices of assets have responded to the events and outlook (in a very micro sense, I feel last week’s bounce reflected too much optimism, but that’s me). I would say assets were priced fairly on Friday for the optimistic case but didn’t give enough scope for the possibility of worsening news. Thus my reaction to all the above is to expect asset prices to decline. You may or may not feel there’s still time to increase defensiveness ahead of potentially negative developments. But the most important thing is to be ready to respond to and take advantage of declines."

 

Howard Marks is Co-founder and Co-chairman of Oaktree Capital Management, the largest investor in distressed securities worldwide. This article is general information and does not consider the circumstances of all investors.

A full copy of his latest client memo is linked here.

 

RELATED ARTICLES

Howard Marks on uncertainty, forecasting and doubt

Howard Marks and his 'Latest Thinking'

banner

Most viewed in recent weeks

Have the rules of retirement investing changed?

In retirement, we still want to reduce stock volatility while generating cash flows. The two needs have not changed, but the reward expected in the old days from interest payments has gone. What should we do?

One last hurrah for the 60/40 portfolio?

The 60/40 diversified portfolio has been the mainstay of the superannuation industry for decades. But it is built on a fundamental principle of defensive bond returns, and its time is nigh.

YourSuper will save $17.9 billion! Surely you’re joshing

In Budget 2020, Josh Frydenberg announced a performance comparison tool and fund stapling to save Australians $17.9 billion over 10 years. But too many moving parts make results highly cyclical.

18 Aussie names for your watchlist

A Morningstar stock screener reveals a cross-section of companies with competitive advantages that are trading at material discounts to estimated value. This is a list of 18 highly-rated names worth watching.

Claiming a tax deduction for super contributions

The timing of lodging a notice of intent to claim a tax deduction on super contributions and making partial rollovers or withdrawals can make a big difference to the amount allowed to be claimed.

Welcome to Firstlinks Edition 378

Budgets are forecasts, and more than most, Josh Frydenberg and Treasury waved a wet finger in the air in compiling the 2020 version. How many companies will now employ a new apprentice for $100 a week subsidy? Which back-of-the-envelope showed 3.5 million businesses would use the instant asset write off? And the $17.9 billion for super savings based on the YourSuper proposal is wishful thinking.

  • 8 October 2020

Latest Updates

Weekly Editorial

Welcome to Firstlinks Edition 380

Former US Vice President Al Gore once told me he needed to raise only US$70,000 when he first ran for politics. Now Biden and Trump spend billions just on television advertising. Little wonder so many favours are owed after each election, and this time, it really matters. Plus investing insights from Kate Howitt, Hamish Douglass, Roger Montgomery, Phil Ruthven and Morningstar's top stock picks.

  • 22 October 2020
Interviews

Kate Howitt: investing lessons and avoiding the PIPO trade

Kate Howitt identifies the stocks she likes and the disappointments, gives context to the increasing role of retail investors, and explains why the market is more of a 'voting not weighing' machine than ever before.

Investment strategies

Hamish Douglass on what really matters

Questions on the stock market/economy disconnect, how to focus long term, technology's growing role, income in a low-rate world, Modern Monetary Theory and endless debt and the tooth fairy.

Investment strategies

Buffett and his warning about 'virtually certain' earnings

While many investors are happy to invest in any online companies, Warren Buffett focusses more on the quality of future growth, buying companies whose earnings are 'virtually certain' in 10 or 20 years from now.

Shares

18 Aussie names for your watchlist

A Morningstar stock screener reveals a cross-section of companies with competitive advantages that are trading at material discounts to estimated value. This is a list of 18 highly-rated names worth watching.

Economy

Are debt and its servicing cost serious worries?

The impact of the pandemic on Australia's debt and deficit has forced the government into borrowing on a scale unimaginable at the start of 2020. What are the implications, and what is even more important?

Investment strategies

Why not use options to protect your share portfolio?

Many investors ask why fund managers do not protect the portfolio downside by using options. All insurance has a cost, and achieving full protection is expensive, but there are other ways to use options.

Property

A-REITs offering much-needed income

Many listed property stocks were hard hit by COVID, especially in retail, but foot traffic outside Victoria has held up relatively well. Some sectors are now good value for the recovery and less working from home.

Sponsors

Alliances

© 2020 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use.
Any general advice or class service prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, has been prepared by without reference to your objectives, financial situation or needs. Refer to our Financial Services Guide (FSG) for more information. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.