Howard Marks (W’67) & Wharton Finance Prof. Chris Geczy: Investor Series - November 2020

good afternoon my name is erica james and i'm dean of the wharton school welcome to the 10th installment of the howard marx investor series the series was created in 2014 by an endowed gift from wharton alumnus howard marks it brings high-profile investors to campus and now to the wharton community virtually to share real practical perspectives previous guest speakers have included seth clarman steven schwartzman and bruce karsch who is the co-founder of oaktree capital along with howard it's my great pleasure to introduce to you today howard marks who is the co-chairman of oaktree capital management since the formation of oak tree in 1995 it's been responsible for ensuring the firm's adherence to its core investment philosophy contributing to his expert contributing his experience to big picture decisions relating to investments and corporate direction and communicating closely with clients concerning products and strategies often through his well-known oak tree memos before founding oaktree he led the groups at the tcw group that were responsible for investments in distressed debt high-yield bonds and convertible securities he was also chief investment officer for domestic fixed income at tcw previously howard was with citicorp investment management for 16 years where he started as an equity research analyst then was director of research and later vice president and senior portfolio manager in charge of convertible and high-yield securities he holds a bachelor's degree in economics with a major in finance from wharton and an mba in accounting and finance from the booth school of business at the university of chicago our is an emeritus trustee of the university of pennsylvania where from 2000 to 2010 he chaired the investment board currently he is a trustee and chairman of the investment committee at the metropolitan museum of art chairs the investment committee of the royal drawing school and is professor of practice at king's business school in london he also serves on the shanghai international financial advisory council and the advisory board of duke conchan university is the author of several books including the most important thing common sense for the thoughtful investor and mastering the market getting the odds on your side today's event will be moderated by professor chris gatesy he is an adjunct professor of finance as well as academic director of the wharton wealth management initiative and the jacobs levy equity management center for quantitative financial research at wharton chris take it away and thank you uh to all who have joined us today uh it's a pleasure to welcome howard marks for the latest fulfillment of the howard marx investor series and our very first virtual installment and uh perhaps not our last i'm sure most of you in the audience are familiar with howard and with oaktree capital management as the most well-known manager of distressed dead in the world uh he's also very well known for his oak tree memos and i encourage you to explore them uh there are required reading in my review and if you take my investment management classes as something like 200 students right right now know you'll read howard marks howard's knowledge and experience in the investing world are truly invaluable to us not unlike his contributions to wharton and to penn throughout the years earlier this year the university announced a new gift from howard and his wife nancy to endow and name the marx family center for excellence in writing at penn arts and sciences this is their second gift in support of writing education at penn hart and nancy also established the howard mark's professorship in economic history in the howard mark's university professorship have endowed scholarship support for undergraduates howard thank you for your dedicated support of the school and all you continue to do for us to give back and support the next generation of wharton and penn students uh and now on to what has brought everyone here today howard uh particularly would like to hear from you and we've chosen several excellent student inquiries which have been pre-recorded we also have will save time for audience questions at the end you can submit questions via the q a dialog box button so look at your screen which is the last one on the panel on the right side of your screen uh you can do that at any point and we'll be sure to funnel the questions to me and hopefully we'll be able to fit as many in as we can we'd also like you to ask you that you please not record the session as we will be recording and making it available on the howard mark series uh website uh so howard let's get down to it uh it's hard to imagine that we were together just back on campus in february uh and if you recall one of the largest concerns that you had about which you wrote in part in your most recent memo uh was thinking about the natural business cycle you were thinking about the election and in fact you made special reference uh to the election uh and wow how different does it actually seem now uh it seems like uh many generations ago doesn't it um i'd like to start by asking you about your most recent memo uh from last month title coming into focus uh now of course things have drifted a bit since then which we'll get into but uh you're right that oak tree is operated under the mantra move forward but with caution and we've heard about that uh over the years can you tell us a bit about how that's guided your investment strategies uh over the last months and whether your outlook on the market has changed since you wrote the memo uh and of course in the memo you wrote about thinking about coming in coming into focus on how you think about uh move forward but with caution where are you today well as you say uh chris um that was our mantra in uh in the recent years leading up to 2020. uh i viewed the market as follows high level of uncertainty low prospective returns because the fed had lowered interest rates so much high asset prices and risky behavior on the part of investors trying to earn a high return in a low return world and when other people act in a pro risk manner we should be cautious as as buffett says the less prudence with which others conduct their affairs the greater the prudence with which we must conduct our own effect their risky behavior makes the market a risky place so we were we've maintained for a few years now that mantra uh moved forward but with caution what it meant was we were investing we're not hesitant to invest we were investing every day we were trying to be fully invested we were essentially fully invested but with caution and when i say that we are always cautious we believe in bringing a risk controlled approach to our risk asset category our our asset categories are not guilt edge they they all involve risk and we think that uh that a a a risk controlled approach is the best way to produce uh steady returns which is what we aim for um so we came into 2020 with a cautious portfolio we didn't know what would go wrong we didn't know what would bring the longest bull market and the longest economic recovery to an end but we thought that the markets were vulnerable to a shock and of course they got a shock an unforeseen shock when as you say when we spoke in february we didn't we didn't we probably couldn't have spelled coronavirus uh or covet but uh but we did get the shock and the the markets uh capitulated uh the the s p went from about 33.80 on february 19th to about 22 30 on march 23rd only only uh uh two four and a half weeks later down 33.9 percent but then the fed and the treasury came to the rescue in mid-march on march 23rd the the low uh the fed announced an expansion of of its programs and uh the market roared back and every everybody first says well that's a dead cat bounce and then they said as i did that that if you look at past cycles the market has bounced and fallen further and bounced and fallen further and bouncing that's how you get to a bottom but this time it went straight up and there have been you know well it reached uh 3 500 around august 31st up 56 from the low um and it has there's been some backing and filling but uh this last week it it moved to an all-time new all-time high so uh so you know we we were very aggressive in mid-march we put a lot of money to work uh in uh when the markets were under pressure and and uh people are eager to sell but now uh now is now we're back to moving forward but with caution um you know um we've been managing iel bonds and stress debt through over the last recent decades we through three crises the first high yield bond crisis was 1990 91 the second one was o102 and the third of course was the global financial crisis you know eight and in each of those we saw deteriorating corporate results falling security prices margin calls meltdowns uh people eager to sell and and eventually panic selling uh which gave us a great opportunity to scoop up bargains at the low which we always uh have done but this time it's quite anomalous because we still have the covert and at the moment worse than ever although there's a lot of uh light in the at the end of the tunnel thanks to the vaccine we still have an economy which is well down from the 2019 level and yet we have securities at all-time high uh so uh you know i i still think we have uncertainty and low now we have even lower prospective returns than we did a year ago thanks to the fed taking the interest rate to the fed funds are eight to zero we have full to high asset prices and we have the re-emergence of risky behavior the point is you take your typical defined benefit pension plan it needs seven percent to make the math work and at a time when cash pays zero and treasuries pay less than one and high grade bonds pay two and high yield bonds pay less than five and stocks are expected to return five or six you can average those numbers out any way you want and not get seven so people have had to move into risk asset classes it's been great for alternative investment firms like ours but uh but the challenge of making a decent return in a low return world exists and has moved to the forefront yeah and we're going to come back a bit later to uh what you write about in a memo which is in part uh about uh risk adjusted returns and whether we're getting paid at the right level which which changes and of course we know when interest rates are low risk premia could still be reasonable uh of course in this case it may not be um there's been substantial uh student interest in today's session howard as you might expect um uh we have several pre-recorded questions and let's start with one from matthew current uh what's going to happen is going to play the question and uh that'll go directly to you it's virtual but i know it's heartfelt so let's hear from matthew current hi mr marks thanks for taking the time to come and speak with us today my name is matthew curran i'm a junior in wharton concentrating in finance and mining and political science in one of your previous talks at penn you would use the analogy of a baseball game and said that the current market cycle was in its eighth or ninth inning but you had also alluded to the possibility of entering ex-trainings so my question for you today is what inning do you see our current cycle being in and have we started a new game first person to ask that question in this cycle i haven't given it that much thought you know it it it's it's unusually hard to to uh to answer that question today uh we normally think that the market has a certain ebb and flow and uh and that the cycles are uh their difference in detail their difference in the duration their amplitude their speed but but that certain things that do tend to repeat from from or at least to rhyme as mark twain said um and you know normally what happens is that we have uh an upcycle we have increasing optimism increasing risk tolerance increasing good feelings because the upcycle is so rewarding and rising prices and eventual excesses of valuation and and and the same thing through the economy we have excess of expansion and excessive hiring and and leverage and so forth then things uh reverse and we get movement on the downside and we get uh falling prices and worse corporate results and and deteriorating psychology and this switch from greed to fear and uh and we also get economic deterioration that's the normal cycle and the it's a it's a matter i think the best way to think of the economic cycle and the market cycle excesses and corrections excesses and corrections excesses and corrections and uh the a lot of the uh changes are endogenous they are within the economy and within the market this is unique because this is exogenous it's not it wasn't excesses of of markets and economies it was the pandemic we had a recovery it was a basically a healthy recovery it was a slow gradual recovery the longest in history but the slowest in post-war history and um and and not too many excesses in the economy or even in the market uh but then we had the pandemic and the pandemic required us to close our economy in order to keep people apart and and control the spread and we had the worst quarter in the history a second quarter was down 33 on an annualized uh basis um so it's it's very hard to say what what inning we're in uh because this is not a routine game i guess i would say um we are we're at at the beginning we know we're only uh about four months five months into an economic recovery we believe that recovery will will last at least as long as it takes to get the economy back to its 2019 level in terms of gdp um there's some doubt now with the with the failure of washington to provide support payments uh there's some doubt as to whether the recovery will live up to its everyone's expectations but i think we are in a recovery but you know an interesting question is we never had a a a normal recession we had a an artificially induced recession are we still slated for a normal recession or has this uh has the entire cycle been reset and since it's only five months old do we have years and years to go i don't think anybody can say uh and you know the extent to which the uh the fed and the treasury and the recovery rebuild people's liquidity and rebuild their uh willingness to consume um and the extent to which uh life returns to what it always has been is is very uncertain so i i uh you know i think we're it i think we're in the second inning uh vis-a-vis the economy of course the market being at an all-time high uh despite the negative fundamentals uh or i should say modest fundamentals uh that that juxtaposition gives me more pause and i would say that the rally in the market is in the sixth inning or the seventh inning but but uh who's to say if if the economy is is uh dietary for the next uh five years on an uptrend the market will do pretty well although i do think that the the recovery from the all-time lows uh in in march has been very dramatic and it feels to me most of us like the market is is ahead of the economy yeah howard uh to follow up on that um it's been a extremely interesting and diverse recovery uh across styles and classes one thing you've read about in the memo is risk adjusted return which of course in some sense leads us back to the academic notion of the sharp ratio of course you can't eat the sharp ratio right and you can't spend the sharp ratio right we need to we need to require we need to require a return there are a small number of ways to get there um what's your view on the on on on whether we're getting paid the right at the right level today and i love how in the memo you bring in the capital market line so it fits right into my lecture notes so thank you for that that's a great one but then well one thing about that is the dispersion across sectors which is really unusual uh with uh growth and and large cap stocks for example doing well but they're still being uh a large number of industries and sectors in deep distress well that um chris is reference to the capital market line uh if you if you think about a graph with the with return on the vertical axis and risk on the horizontal axis but we have a point on the left side where the where at zero risk you have the risk-free rate and that's usually 30-day bills which have no credit risk and and no inflation risk and that's the lowest return you can get on anything as you move up from that in risk you there should be an increase in the expected return people shouldn't invest in riskier assets if they're not expected to be higher returning than safe assets so the line goes at an angle from the left it goes up and to the right we call that a positive correlation a positive relationship between risk and expected return and you know that's when and when when when that learn does go uh up into the right at a reasonable pace we say the market's at equilibrium and if if all the asset classes are on the line we say they're at equilibrium because they're in a reasonable relationship to each other in terms of risk-adjusted return as the risk rises the return rises and that's only right if nothing else would make sense the problem today is that the the fed took that risk-free rate which is here it's the point from which all returns begin and emanate and they pulled it down and when you pull down the risk-free rate on the left-hand axis the line also falls now sometimes it falls not in parallel sometimes different parts of the line fall more than others this this slope could increase or decrease that's the the slope of the line is the is the risk premium uh and but the point is i believe that most asset classes uh appear to be in equilibrium with each other the the risk-free rates appear to be proportional the returns appear to be proportional to the risk but the problem is that all returns are at a very low level and uh as i said you know the the the uh the pension fund uh that needs seven has a hard time getting it today in stocks and bonds uh and um most of them have given up on that and and put substantial money into uh alternative investments with their illiquidity and their manager reliance and so forth now the the great question that i usually end up speaking about is how do you how do you pursue a high return in a low return world what should you do in a low return world and there i i've come up with five possibilities and i can't think of any more you can continue to invest as you always have and understand that you'll that the the return you make will be lower than ever you can worry about the level of asset prices reduce your risk to to cushion the blow if a correction comes but then your return will be lower still you can go all the way to cash to the up the ultimate preparation for a correction but then your return will be zero and you better be right fast because if you're in cash for two years and the market goes up you may be looking for another job or new clients rather than risk reduction you can go in the opposite direction you can increase your risk in pursuit of a higher return but is this the time to be increasing risk when there's great uncertainty in as to the fundamentals geopolitical political uncertainty in addition to economic or number five you can try to look for exceptions what i call special niches special people who who hopefully can produce a a good return with safety in a low return world but those people are truly exceptional and not easy to find yeah uh truly you know alpha should be in some sense um yes right yes it's hard to find uh what's the you've we've spoken together when you we have been so lucky to have you on campus about the use of leverage and uh in some cases you've railed against it in other cases maybe not uh with low yields uh it might be tempting uh to lever a portfolio and of course theory would say you can move along the capital market line either by adding capital structure to an investment de-levering or levering it up uh what's your view as a practical matter about the use of leverage today well after the i mean the global financial crisis of 08 was really an uh in a a demonstration of the effect of leverage but because uh the world essentially had taken mainly mortgage-backed securities but also loans to some extent uh corporate loans and put them into leveraged entities structured leveraged entities uh cos cdos rmbs and so forth and so what they did is they they had internal leverage which is to say that that that you could buy a highly levered piece at the bottom of the structure with an extremely high levered return or you could buy the tap of the structure where where uh you are not participating in the leverage with a low safe return over collateralized by the junior crunches and uh what happened is that that you know when you leverage you say well i if this happens i'll be great if that happens i'll still be okay if this happens i'll probably make it through and the the outcome in terms of defaults on mortgages was a multiple of the worst case that anybody had modeled and after the global financial crisis i put out a memo that entitled uh leverage plus volatility equals dynamite and you know a lot of uh there were thousands of defaults in mortgage-backed securities uh because uh because of the over leverage uh and people should understand that leverage does not make any investments better it magnifies the gains if you win and the losses if you lose um and so it you know i think i think that to make an investment better you have to increase what i call the asymmetry the goal in active investing should be to look for asymmetry situations where if things go well you'll make a lot of money and if things go poorly you won't lose a lot and if you can find those that's that's the holy grail if you find an investment where if things go well you'll make 30 percent of things so poorly you lose 30 percent you know it's it's not a great thing we're looking for this asymmetry and uh and and leverage does not produce an asymmetry it produces an absolute symmetry it magnifies the gains if you win and the losses if you lose but there's one other aspect which is not symmetrical which is it reduces the likelihood that you can get through tough times so there can i if there's a downward fluctuation an unlevered portfolio will make it through a leveraged portfolio may not so i think that you know leverage is far from uh a magic solution um and most of the uh most of the real uh challenges in economic history have come from people who overestimated their ability to live through bad times with a leveraged structure so live by the sword die by the sword exactly and in fact if you think about it leverage is an example chris in investing everything is a two-edged sword except for alpha if you if if an individual really has alpha which is which i define as a superior skill and insight that then that'll help you in good times and bad but but the other things in it like leverage like concentration as opposed to diversification uh and uh these are these are two-edged swords they they help you if the outcomes are good but they hurt you if the outcomes are made agreed uh since your memo uh we've had some innovations uh and one innovation was the announcement of well from two companies pfizer biotech and moderna uh of an mnra um vaccine and you know you hear in the news people say it's never been used on humans well it's been using about 44 000 humans at this point uh and also there's been a corresponding uh shift in value versus growth and i you know for the purposes of our education at warden your comp the conversation about definitions of value in the memo i thought was poignant because there's an ongoing question about whether intrinsic value really means something and how to calculate it and so the coverage is great what's your view about um where we're going and and and the fact that what is um has been a medical challenge and a health challenge and a trade-off uh became an economic one but now we have a potential cure yeah or at least a well preventive measure a solution we have a solution um and and and it looks like we'll get a lot more and by the way i understand that the fda was was prepared to give a vaccine uh uh emergency use uh permission uh if it if it was fifty percent effective and these two are ninety and ninety four and a half percent effective so this is a this is a bonanza in terms of uh good outcomes um look we i think it's always been assumed that we would get a vaccine and it would be effective maybe not this effective uh it's still going to take a long time before uh enough americans are vaccinated to to get the problem under control and there's remains a question of whether of how many people ultimately will accept the vaccine um you know by the way there have been vaccines which have been required when i was a boy smallpox inoculation was required you didn't have a choice but you know we have but today we have personal rights uh which sometimes supersede the rights of the community and we have the anti-vaxxers and so forth uh but and then we have the logistical challenges of getting this vaccine to 330 million americans or if if you need to 660 uh doses to americans and and to keep keeping the pfizer one at minus 70 degrees fahrenheit and so forth and and just think about i i think about the number of uh of uh inoculations that have to be made if you have a center that can can that can inoculate a thousand people a day which i think is a lot of vaccination we then we need 330 000 center days to vaccinate everybody it's a it's a it's an enormous challenge i assume that sometime uh my personal guess is which is worthless is that sometime in the third quarter uh we'll reach a level where where the the where the disease is really under control critical point yeah critical mass and so the corresponding question then is uh are you expecting an ongoing wave of bankruptcies in distressed sectors and it's a bit of a forecast for fiscal stimulus i suppose but will or would you think political winds will push the natural implication of the economic challenges away well look what what do we what we have today you you you made reference to it we have a bifurcated market we have companies whose business models are were not challenged by the pandemic or were enhanced by the pandemic amazon and netflix being obvious candidates for enhancement and they are selling at high prices and their uh their stocks and they are being lauded as having a brilliant future and then we have companies and industries whose business models were challenged by the pandemic and they as you say some of those stocks have languished uh and are they're still down for the year but you know the question is which ones are really hurt permanently and which ones will will the negative effect be temporary uh brick and mortar retail was doing badly before the pandemic and the pandemic has accelerated the trends and you know what will retailers be worth what will shopping malls be worth and so forth is an open question uh other things cruise lines for example you remember at the beginning of the pandemic crew cruise ships were the were the petri dish for uh for infection uh and you know most people said i'll never step foot on a cruise ship but i think that once it's under control i think that a lot of behavior will revert so uh you know we don't know what is the outlook for retail for hospitality for big city office buildings um but uh you know the person who gets that right will make a lot of money and how about your thoughts on and then we're going to get to another student question but how about your thoughts on the reversion of what we think of as value and growth a week ago monday we saw something like a five standard deviation reversal in the traditional index spreads on it in a single day right well you know uh growth investing however defined has outperformed value by a lot in recent years and uh this is a normal uh issue uh sometimes the best securities do best and sometimes the worst but cheapest ones do best and uh i think you know my personal definition of growth uh versus value is that growth stocks are valued on future distant future potential a lot of which is conceptual and unquantifiable and value stocks are valued on current and close in future earnings in addition to hard asset values now clearly the the growth stock aspects are what we call what we would call speculative and i don't use that in a in a pejorative sense but but conjectural as opposed to the hard asset values and current cash flows of the value companies and uh so i think the growth stock growth investing is a reflection of optimism in excess of what's applied to value stocks and so growth stocks do great in good times but are hurt in bad times value stocks which are essentially cheaper on multiples they don't reflect as much optimism with regard to the future they get hurt less when optimism declines so for example in 1999 i think that the i think that growth outperformed value by 2500 basis points and that was the the most ever but then in in 2000 when the tech bubble collapsed uh the the the air went out of the balloon of growth investing and value did much better uh and i think so i i do i do tend to associate growth investing with optimism and uh value investing with less optimism and i think that has a big effect on their uh relative performance the other thing though is is passive uh and uh indexation investing um you know uh the since it has been a very strong trend in over the last uh 15 20 25 years to passive investing and what that means is that there's nobody sitting in the in the office of the passive investment fund saying well is this a good company what is the outlook does it merit the current price you have a list of securities that you for for the passive vehicle and when the money comes in you buy them in the fixed proportions or proportionate to their relative market caps and there's a self-fulfilling prophecy uh uh aspect to that because you know let's say chris you and i agreed that over the next five years every penny that went into the u.s stock market would go into a an s p index fund what does that mean that means over those five years the the 500 stocks in the s p would become massively expensive as they received all the cash flows the older stocks in the market would be kept massively cheap because they were starved for capital nobody was buying them and eventually however the the non-smp stocks would be so cheap relative to the s p stocks that their out performance would become compelling at some point uh we do we just don't know where that inflection point is and uh but but uh you know i don't believe in permanent outperformance uh i don't you know if if one asset class outperforms another for reasons other than the risk difference for a long period of time eventually the outperformer will become so expensive that it can't keep out performing that's my belief but as as lord cain said the market can remain irrational longer than you can remain confident right right another famous mark uh howard mark's comment is uh being early is sometimes observationally equivalent to being wrong resilience is key good howard let's go to uh our second student question that was pre-recorded uh this is from uh austin major and it's a question about um uh what you're thinking about during the during the pandemic let's hear from austin hi my name is austin i'm a second year mba here at wharton thanks again for your time today howard my question for you is if you were a student during this pandemic how would you spend your time what would you be doing or what would you be learning thank you well if your existence is anything like mine basically what it means is you have a lot of time on your hands you're not commuting to work or school um and uh you're not going to restaurants i hope you're not going to clubs not going to sporting events you're not you're not probably not playing team sports so you have a lot of time on your hands and you should be able to read more than ever reading broadly i think is the is the best preparation for a business career and especially for an investment career um and uh it's important to read on a on a wide variety of subjects and not just uh not just investment books but uh you read about science and look for parallels between the sciences and investing read about uh uh you know i my first memo this year was it was called you bet and because i had just finished reading a book about uh poker and the lessons of poker for investing um thinking in vets and uh you know uh that's that's the main thing you can you can you can take in so much information now uh because of the lack of distractions and uh that would be my my number one recommendation thanks uh howard i think it was annie duke's book right thinking in bets that's right and he practically got a phd in decision making from penn uh until she became the leading woman poker player in the world for a while yeah we're glad that sometimes she uh teaches some classes at wharton as well so um in the interest of time i wanted to open it up for uh student and other attendee questions that are coming in uh fast and furious before we do so i'd like to hear from one more student uh if that's okay with you howard uh i'd like to hear from genevieve shaw and so folks award can we run genevieve's question which is a pretty forward-looking question thank you so much for taking our questions my name is genevieve shaw and i'm a jd mba at penn law and wharton my question is if you were starting out in your investment career today what area of the investment world would you focus on so private equity buyouts public market investing or would you stay in distressed in special situations thank you i think the most important thing is to do something that fits you um and uh when you're looking for a career direction the the two most important things are to find something that takes advantage of your strengths and doesn't require much from your weaknesses and do something that you'll enjoy in particular i think investing has to fit with your personality and there's kind of a a a spectrum i my personality i'm analytical i'm cautious and uh i have to be induced to take risk so credit was great for me i moved over i spent nine years in equities before moving to the credit business in 1978 when i was asked to start a high yield bond portfolio which turned out to be a great use for my talents uh but you know to be a credit investor is to only care about the downside because in bonds essentially there's no upside a bond is issued at par and repaid at par and you get interest in between but the outcome is fixed at best that's why they call it fixed income because the outcome is the promised return if things go right there are no different degrees of success there are only different degrees of failure to be an equity analyst you have to be an optimist i've never met a pessimistic equity investor it just doesn't work to be a venture capitalist yeah i think you have to be a real dreamer and a real optimist and you have to see possibilities that other people don't see so i think it's extremely important to to pick a specialty that fits your skill uh and your personality and and your your essence um look obviously the the the interest level is much higher today in private investing than public invest public the public markets are fairly efficient barely picked over and uh and uh few people have been able to outperform uh in of recent years you know i can i can real often list of famous investors in the past uh starting with peter lynch and warren buffett and and so forth but you know who are the famous equity investors today very few because because nobody has really put together a great record in in in the last couple of decades in equities it's harder because of the because the markets are competitive which makes them efficient which tends to drive out bargains uh and you know uh 40 years ago you could you could look you could you could get the moody's manual down from the shelf and try to find what we call net net companies which were companies which had more cash than they had debt and you know you could you could get lucky and find one and you could make a lot of money buying something that was worth a hell of a lot more than it was selling for today everybody got a computer you can screen the whole universe for any parameter in 30 seconds and but everybody else can do it too and which tends to to to have value converge with price and it's it's just harder in the public securities markets to to steal a march to find an inefficiency in the private markets you can find things that you can find an opportunity to buy something that that most people don't know about or you can you can negotiate a bilateral deal and and and uh if it's not too competitive uh get a get a special opportunity so uh you know i think that i think that most people who have the choice will go into private investing uh instead one thing that you might find interesting is the emerging markets are less efficient than the developed markets you might enjoy that the frontier markets are even more so you know uh bangladesh and nigeria there'll be great companies coming out of there and they'll they'll they'll do very well number one with exports but number two as their uh middle class develops so that's something to look at but i mean you you just the i was lucky i stumbled on some uncrowded fields uh in early in my career and you should look for things that are not too crowded thanks howard i'm going to stick a bit with the um theme of international investing a bit here um and for those of you who are lining up questions keep them coming we're going to have to curate them a little bit but there's a lot of interest here uh mathouse asks the following first of all he says good evening from italy so this is uh uh being broadcast around the world uh how do you view the private debt market and its opportunities in europe at this point in time in light of new lockdowns in the second wave what's your view of internationalization it's an extension in a way of something you just said uh but with the resurgence well i think that i think that the the the debt markets and especially the private debt markets in europe are much less developed than the u.s debt markets um and uh in particular uh europe has always been very dependent on banks for uh lending and the banks are quite constrained uh in europe and and uh and risk-averse uh which means that there is uh a lot of scope for non-bank lenders uh to to to drive deals that are preferential um so uh i think it's i think it's a good idea and we have an active uh european uh credit solutions strategy which which uh which we like very much and uh you know any any market which has been not been exploited and picked over we we want to find these things they're called inefficiencies that's a big sounding word that's an academic word you probably get extra points on your phd dissertation for using the word inefficiencies i call them mistakes you want to find assets that are priced wrong and you know when i started in high yield bonds in 78 most organizations had a rule against buying any bonds that were an investment grade so if 95 of investors won't buy something regardless of the price the few people who will buy it might get a special bargain and we did the same was true of the stress that in 88 and and we went to the emerging markets in 98 and you know this is how you find opportunity where do inefficiencies come from what causes inefficiency mainly two categories in my opinion ignorance and application or ignorance and bias let's say if if if if you can find an asset that not too many people know about maybe you can steal it or if everybody is prejudiced against an asset class maybe maybe it's underpriced um you know a great example when i started in high yield bonds moody's defined a b rated bond as follows fails to possess the characteristics of a desired investment in other words investment grade bonds good non-investment-grade bonds bad and fiduciaries couldn't buy them mike milken who is a wharton grad revolutionized the market with the with the realization that you can buy risky assets if the if the expected compensation is sufficient to pay for the risk and that changed the way the world looks at risk and quality and uh so you know uh the the challenge is that today most people will do anything to make a buck most people don't have the biases that i benefited from uh 40 years ago but you can keep looking uh and uh and uh certainly the the emerging markets are less developed and the frontier markets much more so how hard in keeping with that theme uh there are a couple questions on china and i'll merge them together what do you think of the return prospects uh for example in china uh where we've seen a rapid recovery and and tremendous returns even in u.s dollar terms here to date um indeed do you believe avoiding china is more heavily uh a risk or would you reallocate from developed markets and of course we now know that uh china now the china airship shares market has opened up it's something like 40 of the traditional emerging market indices and benchmarks how are you thinking either at oak tree or personally about china well we're we're very active in china we we've been i think the largest buyer of chinese npls non-performing loan uh we've been there for five years plus we we constantly do a little more we just put we just put a a team two teams in asia one for china one for india uh you can't ignore china china is the second world largest economy in the world uh mike milken tells me that it's not too long until it's the first uh the number one economy in the world um you know if you think about it the world the u.s has been preeminent in the world for about 100 years but it has never had a serious economic rival before and and and it does now and you know china with with a uh with essentially controlled government and without with without too much uh shall we say uh difference of opinion uh uh and with a with a very efficient political process can take steps and take actions and do things that we can't do in this country because we're a little high bound so uh and and of course you know everybody who knows anything about china tells me that china has been using hardball tactics uh to advance its own interests uh in trade especially so china's going to be a big factor in the world and uh and i think that you can't uh you can't ignore china just to give you the just to give you my bottom line the way way i describe it i say that japan and europe are economic senior citizens past their prime the u.s is a mature adult still quite viable but best days of the 20s and 30s and 40s are behind it chyna is a teenager now it if you've ever had a teenager in your house you know that it's tempestuous and chaotic and volatile and there are ups and downs but you also know that the teenager has a great a great future ahead and that's that's the way i think about china it clearly has ups and downs it has a lot of transitions still to be made from the farm to the city uh from uh excess dependence on uh fixed investment and so forth but it has a great future i think and you're keeping in the family yes okay let's talk a bit about um macro and the way i'm going to ask this is pretty um constructive um and it links a couple things it links your memo with your some of the things you said about the macri accounting if you're appointed as a governor or as a chairperson of the federal reserve board of governors tomorrow what would your top priorities be um first of all i wouldn't take the job because i think to take the job you have to feel you have the answers and i don't feel i have the answers i don't believe in in in macro forecasts or uh the ability to to have a superior view of the macro one of the tenets of six tenets of the oak trees investment philosophy is that we do not predicate our investments on macro forecasts because we think it's hard to get an edge as a macro forecaster but i think that you know the the uh the fed has uh uh multiple goals to control inflation to create enough growth so that there's job creation uh and i think uh now it seems to act as if its job is to prevent recessions and uh maybe to cure market dips and now i think it's going to add another uh responsibility which is to reduce inequality so it's very hard to pursue four or five goals at the same time especially if those goals are are not all aligned with each other i think my emphasis if i were at the central bank would be to not be active you know i think that i think that the the fed for the last 20 plus years has gone a long way to devoting a lot of resources and a lot of activity to preventing recessions and preventing uh bad periods but i think that bad periods are important because they restore the objective view of life you know i wrote in in a memo earlier this uh year that uh fear of bankruptcy is to capitalism as fear of hell is to catholicism and if you're not afraid of bankruptcy then you will do risky things you'll over leverage the cure in the knowledge that if that if a slowdown comes the fed will bail you out that's not healthy for the business world businessmen make much better decisions if they if they if they don't have what that's called moral hazard it's a belief that you can behave in an immoral or an unwise way ju because of because you're confident you'll get bailed out in a problem that's is not salutary and uh i think that uh uh i would not be riding to the rescue at every at every minute in time i think that uh and i also think that that small recessions uh let off the pressure and make it less likely that we'll have a big recession or a depression um but that's that's my bias so you know i i think that interest rates have been maintained artificially low for the last 12 years and i think that you know you it's one thing to reduce interest rates to stimulate the economy when it's slow but then when it gathers some steam you should let the interest rates float up to what might be a more natural naturally occurring level and and the fed didn't do that it should have it should have raised rates in 12 13 14 when the growth was strong they tried to do it in 17 and 18 when the growth was weak and the market rebelled in the fourth quarter of 18 and the fed had to stop janet yellen's program of rate increases and substitute some more decreases to pacify the markets so i think that would be my bias almost an automatic uh rule in some way right right well just like just like keynes kane said uh that that you should run deficits in times of weakness to encourage the economy and create jobs but then when the markets when the economy strengthens and you have prosperity you should run surpluses and repay the debt so everybody believes in doing the the first but everybody's forgotten about doing the second and it we haven't had a surplus since since uh late in the clinton administration uh which was not in this century uh and and and uh we were we were when we came into 2020 we were scheduled to run a trillion dollar deficit in times of prosperity which is terrible because now that we instead have a recession we're going to have a 4 trillion deficit and uh you know we have we've limited our degrees of freedom yeah i remember seth carman uh made a comment about how concerned he was about uh interest rate shocks when when the when then the deficit ballooned yeah good uh how are we gonna have time for one more i hope you're uh you're able to answer uh it's a great one chateau has been very patient she asked the first question uh how do you envision creating greater inclusion of underrepresented groups in the investment world within investment firms as well as the portfolio of investments you make and uh obviously you're tracking the developments um there's there's a uh this is a time of rapid change including with the social unrest uh and many related ideas but also on the asset management space there have been letters from congress going out to portfolio managers asking about the composition of staff and so on what's your view of it in the industry which has been largely let's face it historically uh dominated by uh white males yeah well look as as with many things in in this country and in the world we have a legacy of of uh unequal participation i when i went to chicago for grad school to 67 i think i remember 68 when the i think the first woman showed up uh and as i recall my wharton days in the mid 60s i don't remember any women so i don't know if they were excluded or if they if or if they weren't interested but you know it's it's very hard to to equalize and not just women but racially as well it's very hard to equalize the numbers that the government might ask to see if the if the uh potential employees aren't there and you know for one reason or another which was the chicken and which was the egg there are haven't been many uh many uh racial minorities and women in the investment business um we all i want to see it i want it to happen i believe in that everybody should have the same opportunities and uh you know we we we're actively trying to uh repair the representation uh but we need the candidates i was asked to uh we we had a an ex-employee going to one of the top business schools and she asked me to speak to the investment club she so i said i would and we she met me at the curb she walked me to the room where the club was meeting i walked in the room 30 guys so you know we need we need the women to participate we need uh uh underrepresented minorities to participate uh we have to provide the educational opportunities especially for the latter i think the women have good educational opportunities today i think there's no you know there's no bias in business school admissions that i can detect uh but uh we just need to to get the people who are underrepresented in and and and retain them but i think i think that i think that our process will be much enhanced and fairness in the world will be much enhanced if we can bring that outstanding howard uh we're out of time unfortunately and i i know speaking for myself but i'm sure for everyone in the in the audience i could listen to you for many many hours and uh you've been very generous with your time today it was terrific uh thank you so much i know the audience uh enjoyed it i suspect many will be seeing the tape just a reminder that the video will be uploaded on the wharton howard marks investor series website within the next few days uh please stay tuned for howard's next memo uh we we do it wharton and becomes a required reading very rapidly uh again howard great to see you great to be with you thanks so much for your time thanks for the opportunity and thank you to everybody who attended bye-bye you

Channel: Wharton School

Views: 39,661

Keywords: Wharton, The Wharton School, business school, business, university of pennsylvania, penn, wharton business school, howard marks, oaktree, capital, investor, finance, interview, economy, markets

Id: YrqpMKw46ys

Length: 63min 59sec (3839 seconds)

Published: Fri Nov 20 2020