Key Investing Lessons from Howard Marks

[Henrik Ekenberg]

Key Investing Lessons from Howard Marks

Howard Marks, the co-founder of Oaktree Capital Management and one of the most respected voices in value investing, offers timeless wisdom for both new and seasoned investors. His investment philosophy centers on intrinsic value, market cycles, and the importance of risk management. Let's explore these core lessons in greater depth, along with practical examples that illustrate his approach.

1. Focus on Intrinsic Value
One of Marks' fundamental principles is the focus on intrinsic value—the true worth of a company based on its underlying business performance. According to Marks, price tells you what people are willing to pay for a stock, but it doesn't reflect the actual value of the company. Intelligent investors should focus on understanding a company's intrinsic value through deep analysis, looking at factors such as earnings potential, assets, and liabilities.

Example:
Take Apple (AAPL) during the early 2000s. While its stock price was relatively low at the time, savvy investors who understood the potential of its upcoming innovations, such as the iPod and iPhone, recognized that its intrinsic value far exceeded its market price. By focusing on the company's long-term growth prospects, investors who bought in early benefitted massively as the stock price caught up to its intrinsic value in later years.

Key takeaway: The higher the intrinsic value relative to the price, the bigger the opportunity.

2. Benefit from Cycles
Marks emphasizes that both the economy and stock market move in cycles. He advises investors to use these cycles to their advantage by avoiding extreme optimism and pessimism. Cycles often push prices to unsustainable highs or lows, and smart investors can exploit these extremes to make opportunistic investments.

Example:
During the 2008 financial crisis, the stock market experienced extreme pessimism, with stock prices plummeting to levels that far undervalued their intrinsic worth. Warren Buffett famously took advantage of this cycle, buying shares in blue-chip companies like Goldman Sachs and Bank of America when prices were deeply discounted. By acting when others were panicking, he positioned himself to reap substantial rewards once the market recovered.

Key takeaway: Use the extremes of market cycles to buy undervalued assets and sell overvalued ones.

3. Dare to Be Unpopular
According to Marks, unpopular assets are often where the best opportunities lie. When businesses face short-term challenges or market disfavor, their stocks become cheaper relative to their intrinsic value. While this doesn't guarantee success, the likelihood of overpaying is much lower. In other words, being a contrarian—buying when everyone else is selling—can pay off.

Example:
Consider Amazon (AMZN) during the dot-com bubble burst in the early 2000s. After the bubble popped, Amazon's stock price plunged dramatically, and many investors wrote it off as a failed e-commerce company. However, those who saw Amazon's long-term potential and dared to invest when it was unpopular enjoyed extraordinary returns as the company became a dominant player in retail and cloud computing.

Key takeaway: The best time to buy is when businesses face short-term challenges and investors are pessimistic.

4. Outplay Luck
Marks acknowledges the role of luck in investing. Even with careful analysis and favorable odds, there's no guarantee of success in any given trade. However, the key to successful investing is to play the long game and avoid making short-term decisions based on fleeting emotions or luck.

Example:
In 2011, Netflix (NFLX) faced a major setback when it separated its DVD and streaming services, causing an exodus of subscribers and a significant drop in stock price. Many short-term traders exited in fear, but long-term investors who understood the company's growth potential and stayed the course were rewarded as Netflix eventually became a global entertainment powerhouse. Those who stayed patient avoided letting bad luck influence their long-term strategy.

Key takeaway: Over the long run, discipline and playing the probabilities will outweigh temporary misfortune.

5. Adopt an "I Don't Know" Mindset
Investors fall into two camps: the "I Know" School, which believes in its ability to predict the future, and the "I Don't Know" School, which embraces uncertainty. Marks advises investors to belong to the latter camp. Instead of pretending to predict the future, it's smarter to prepare for various scenarios.

Example:
Ray Dalio, founder of Bridgewater Associates, follows a similar approach. He often says, "I don't know what will happen next, but I want to be prepared for anything." This mindset has led him to create portfolios that are diversified and resilient to different market conditions, minimizing the risk of being blindsided by unexpected events.

Key takeaway: Acknowledge that the future is unpredictable, and focus on positioning yourself for various outcomes.

6. Be Flexible (at Times)
While it's essential to remain true to your investment philosophy, Marks suggests that investors should be flexible when it comes to the types of assets they invest in or their idea of what makes a good company. However, this flexibility should never compromise core principles such as risk management or investment strategy.

Example:
Consider the shift many investors made toward technology stocks during the early 2010s. Traditional blue-chip investors may have hesitated, but those who were flexible enough to recognize the growth potential of companies like Google, Apple, and Facebook saw massive returns. However, they still maintained disciplined risk management and valuation standards.

Key takeaway: Know when to be flexible with asset classes, but stay disciplined in your strategy and risk management.

7. Prepare for Opportunities
Marks advises investors to always have a list of companies they understand and like. Instead of chasing after the next big thing, smart investors prepare themselves by studying companies they believe in and waiting for the right price. This patience often leads to better opportunities down the road.

Example:
Berkshire Hathaway's acquisition of BNSF Railway is an excellent illustration of patience paying off. Warren Buffett admired the company for years, waiting until it faced short-term headwinds in 2009 before buying it outright. By having the company on his radar for years and waiting for the right moment, Buffett was able to make a strategic investment at an attractive price.

Key takeaway: Prepare ahead of time by researching companies you believe in and waiting for opportune buying moments.

8. Learn from Bad Times
According to Marks, investors learn the most during bad times. Mistakes, downturns, and market crashes offer valuable lessons that prosperous times often fail to teach. Ideally, you learn from others' mistakes, but personal experience can also be a powerful teacher.

Example:
The 2000 dot-com crash taught many investors that hype and over-valuation could quickly lead to a bubble bursting. After this, many became more cautious with overhyped sectors, preferring to focus on strong fundamentals rather than speculative price movements. The lessons learned during that crash helped shape investment strategies in the years that followed.

Key takeaway: Mistakes and downturns teach valuable lessons—be willing to embrace them and learn from the experience.

9. Invest Defensively
Lastly, Marks stresses the importance of defensive investing, which means prioritizing the protection of capital and avoiding major losses. Defensive investors focus on diversification, valuation, and buying with a margin of safety.

Example:
During the COVID-19 market crash in early 2020, defensive investors who diversified their portfolios and stuck to quality investments with strong fundamentals were better positioned to ride out the downturn. Defensive measures like having a portion of investments in bonds, cash, or defensive sectors such as healthcare allowed investors to mitigate some of the worst impacts.

Key takeaway: Always invest with a focus on preservation of capital, even in times of economic optimism.

Conclusion
The investing lessons from Howard Marks highlight the importance of discipline, patience, and a focus on long-term success. By focusing on intrinsic value, being aware of market cycles, and learning from past mistakes, investors can improve their chances of success. While there's no "secret" to guaranteed profits, following Marks' timeless principles can help guide investors through the ups and downs of the market.

By staying grounded in reality, embracing uncertainty, and making defensible decisions, investors position themselves for longevity and, ultimately, success in the financial markets.