Source: Buffett Reading Club

Everything in nature, economy, markets, companies, and our lives is constantly changing. Investing is originally about seeking certainty, which is somewhat contradictory to the ever-changing laws of the world. In the face of the unpredictable world, how can we make the right decisions?

Howard Marks, a famous contrarian investor, founder of Oaktree Capital Management with assets under management exceeding $120 billion, made choices based on his ideas rather than the impulse to make money. Marks is an unusual thinker with unique perspectives on topics such as risk, randomness, cyclicality, and black swans, which can help us navigate the obstacles.

While studying for his bachelor's degree at the University of Pennsylvania, Howard Marks encountered the concept of "impermanence" in Zen Buddhism during a Japanese Buddhism class. "Change is inevitable, the only thing that stays the same is impermanence. We must accept the fact that the environment is changing...We cannot expect to control the environment, we must adapt to it, we must expect and adapt to change."

1. Knowing your own limitations is an advantage.

Marks advises investors to follow the first principle of coping with uncertainty, which is to realistically consider their own limitations and vulnerabilities. In the vast universe, each of us is just a small cog, and the universe will continue to exist without us. But if you think of yourself as a giant in the universe, you may do the worst things.

Marks acknowledges the existence of luck. Without Lady Luck, he would never have entered the market that was inefficient and affordable. Since there are too many factors influencing the future and too many interferences from randomness, Marks, in his opinion, cannot predict future events. We cannot predict the future, which sounds like we are admitting our shortcomings, but in fact, recognizing our limitations and operating within the possible range is a huge advantage. The advantage of investors often comes from their understanding of their own weaknesses.

In Marks' view, economist John Kenneth Galbraith is a hero among intellectuals. Galbraith said, "There are two kinds of forecasters; those who don't know, and those who don't know they don't know."

Many investors in the investment community believe (or pretend to think) that they have the ability to predict the future, including: "market strategists" from Wall Street brokerage firms who confidently predict next year's stock market gains and do not admit that they do not know whether the stock market will rise or fall next; stock analysts, who provide quarterly earnings forecasts for certain companies, creating an illusion that profit is consistent and predictable, rather than chaotic and unstable; hedge fund managers who actively bet on changes in currencies, interest rates, and any other factors; TV experts and financial journalists, who boldly claim that they know what recent (and mostly inexplicable) market fluctuations mean for investors.

Although there are many well-known forecasters in the world, Max himself firmly believes that he belongs to the "ignorant" school. In his opinion, the future is influenced by countless factors, and too much randomness interferes, so he cannot predict events in the future. We cannot predict the future, which sounds like an admission of one's shortcomings, but in reality, acknowledging one's own limitations and operating within the possible range is a huge advantage. The advantage of investors often comes from understanding their own disadvantages. Max's view coincides with Buffett's concept of a circle of competence-investors truly need the ability to correctly evaluate the companies they have selected, please pay special attention to the word 'selected', you do not need to be an expert on every or many companies. You just need to be able to evaluate a few companies within your circle of competence. The size of the circle of competence is not important, what matters is that you need to be very clear about your circle of competence. Knowing that your circle of competence is small is an advantage, not a disadvantage, because this awareness of your own limitations will keep investors away from activities that are unhelpful or harmful. On the contrary, the most frightening thing is a person who does not know where the boundaries of their circle of competence are, and even thinks they are "omnipotent", such a person will stumble in either doing business or investing.

2. Analyze value, not timing.

Considering that it is impossible to repeatedly predict the entry and exit points, Marks also gave up the idea of ​​choosing market timing. Trying to grasp the timing of the market is a major source of risk, not a measure to prevent risk.

When habitual doubt causes Marks to miss investment opportunities in internet giants like Facebook and Amazon, he doesn't care. He values "reasonable propositions," namely securities whose prices are lower than their intrinsic values. He said, "It is easy to invest in dreams, and the real challenge is to determine the value of the asset."

Investors who want to achieve lasting success should keep this basic idea in mind: buy assets that are cheaper than their values, as we see.

When analyzing any asset, Max is most interested in knowing, "how much optimism is included in its stock price". As for stocks like Facebook, Amazon, and other companies, "the optimistic component is very high". Will they become the world's first perpetual motion machine, the first company that never fails or goes bankrupt? While others are making a fortune on internet stocks, he can quietly stand by, calm inside. He is an investor who is good at learning from experiences, and he always remembers this phrase: cautious people rarely make mistakes or compose great poems. He is very satisfied with his indifferent attitude because this approach can reduce the probability of making catastrophic errors.

Third, contrarian investment, paying attention to inefficient markets.

If investors want to achieve value growth, they should avoid the most efficient markets and focus on the relatively inefficient ones. Because the more a market is studied, exposed, and promoted, the less room there is to negotiate prices. For example, it is difficult to find particularly cheap investment targets in large US companies, which are mainstream markets with a large number of smart, highly motivated fund managers who often "eliminate mispricing". Peter Lynch also advocates that investors focus on those "unpopular" companies.

If you want to invest in large-cap stocks, buying and holding a fund that tracks the S&P 500 index is a good choice. You have to accept the fact that you are unlikely to have an advantage in this efficient market in the long run.

Max often fishes in unpopular ponds, such as companies that are in debt trouble. This is an area that most investors avoid because it looks both terrifying and opaque. But Max loves it, comparing this investment to a game of cards against weak and error-prone opponents. "When people have a strong bias towards a certain type of asset, it means there is an opportunity to buy cheap goods. I seize this opportunity."

Any assets, not matter how ugly they are, as long as the price is low enough, they are worth buying. Max believes that "buying at a low price" is the only reliable way to gain investment wealth, while "entering at a high point" is the biggest risk. Therefore, for any potential investor, the most important question to consider in investment decision-making is: "Is the stock price cheap enough?"

Paradoxically, the market's bias against junk bonds has made these so-called high-risk assets very cheap, so cheap that they have become relatively risk-free and have investment value, yet the market has labeled them as "junk". In Max's view, the mystery of investment lies largely in these subtle details. He wrote in a memo, "I am convinced that everything important in investment is contrary to intuition, that is, everything obvious is wrong."

Fourth, seize opportunities in times of crisis: flexibly switch between offense and defense.

Dunperton was a big winner in reverse investment during World War II. Max also wrote his legend by using every crisis to his advantage.

In 2008, when the financial crisis broke out, the market collapsed, and investors panicked and scattered like startled mice in a cartoon. In September of that year, Fannie Mae and Freddie Mac collapsed; Merrill Lynch was forced to sell to Bank of America; Lehman Brothers went bankrupt; even Goldman Sachs was on the edge of the cliff.

Under the influence of cyclical forces, panic spread through the market. How did Max react? Watching one heart-wrenching scene after another, watching the market plummet and pessimism spread, Max began to look bullish on the future.

On September 15, the day Lehman Brothers collapsed, Oaktree Capital began buying assets that others were avoiding. Under Max's leadership, the firm invested $0.5 - 0.6 billion a week over the next 15 weeks.

On September 19, in a memorandum to Oaktree Capital's clients, he posed an unanswerable but imperative question: "Will the financial system collapse? Or is this just the worst cyclical decline we've been through?" My answer is simple: We have no choice but to assume that this is not the end of the world, but the beginning of another cycle we can harness." "At that time, the world situation was already very bad, assets lost value, no one believed the world would exist tomorrow, and no one wanted to buy any assets-this was a complete catastrophic storm."

Max never believed that there was only one possibility for future trends. On the contrary, he believed that future trends had multiple possibilities. At this time (September 2008), it was very helpful to think about problems in binary relationships and simplify decisions. He said, "I think we can simplify the problem to either the end of the world or not." According to Buffett's view, if the end of the world does occur, what use is the cash that investors keep in hand?

However, as the market continued to plummet and the financial backbone collapsed, Max's investors who knew him well were completely stunned and pinched a handful of sweat for Max's contrarian investment behavior. At this point, he called out, "When the market is too optimistic, we should call for pessimism, and when the market is too pessimistic, we should call for optimism." When others are greedy, I am afraid. When others are afraid, I am greedy. Cautious Howard Marks became the only optimist on Wall Street at this time.

Pessimists are right and optimists succeed. Max said, "We bet and we win." Then in 2009, the market entered a bull market phase, and Oaktree Capital achieved over 50% return in the market recovery.

In this financial crisis, Oaktree Capital's most impressive achievement was its $0.1 billion investment in Pierre Foods. When the company was on the verge of bankruptcy in 2008, Oaktree Capital acquired it. After restructuring, the company was renamed AdvancePierre Foods and became the leader in the American packaged sandwich industry. In 2017, it was acquired by Tyson Foods. Oaktree Capital earned a total of $2.2 billion in eight years, 23 times its investment capital.

Looking back on the recent COVID-19 pandemic. The arrival of the pandemic in 2020 led people to 'sell stocks hastily at very low prices' because of fear of death and economic downturn. The S&P 500 index plummeted by 33.9% in less than a month.

In the market panic, Oaktree Capital spent billions of dollars to snatch high-yield bonds that could bring "enormous returns." In Max's view, "the timing has become favorable," because assets have become cheap enough and investment risks have been reduced.

Subsequently, the market saw the fastest rebound since the 1930s, and Oaktree Capital once again reaped a huge harvest.

As optimism rises, Max will make another "adjustment" and return to a defensive posture. His transcendence and emotionally unaffected behavior perfectly reflects the lessons he learned from Buddhism. Remember: "We must adapt to the reality that the environment has changed."

In the recent sell-off, Warren Buffett's significant reduction in holdings of Apple and the significant increase in cash holdings has been ridiculed by the market. In fact, the elderly are reacting to their fear of valuations that "cannot support performance, are purely artificial, or have been raised too high." It is expected that after this defense, the elderly will open the greedy mode with a huge cash advantage after today's market crash.

In the recent AI wave, the seven giants of the US stock market headed by Nvidia have repeatedly hit record highs. Faced with the trend of slowing technological iteration, investors who once profited greatly from the seven giants are reluctant to admit that the market will experience a pullback.

The economy will expand and contract; consumer spending will rise and fall; corporate profitability will rise and fall; credit availability will be high or low; asset valuations will rise and fall, etc. None of these are developing in one direction, but instead are oscillating cyclically like a pendulum.

Investor psychology always fluctuates between excitement and frustration, greed and fear, credulity and suspicion, complacency and panic. When too excited, people will overdo things, so the trend always develops excessively in one direction or another.

The financial market driven by investor psychology always presents periodic changes. The financial market cycle will eventually self-correct, and the pendulum will swing in the opposite direction. The future may be unpredictable, but the recurring prosperity and depression are predictable. Once we recognize this potential rule, we will no longer act blindly.

However, most investors in the market are accustomed to linear thinking, either eagerly imagining that the market will continue to rise, or pessimistically concluding that the market will never get better.

When the situation is good, most investors become complacent, but Max is different. He becomes more vigilant because he knows that everything is changing, and the pendulum will not stop at one end of the arc, "cyclical rules have always existed."

In the recent AI wave, the seven giants of the US stock market led by Nvidia have repeatedly set new highs. Faced with the trend of slowing technological iteration, investors who once profited greatly from the seven giants are reluctant to admit that the market will experience a pullback.

It is easy to understand the existence of cycles, but the turning points of cycles are unpredictable. Max said: "I don't even consider timing. In the investment industry, doing the right thing is difficult, and doing the right thing at the right time is even harder." I ignored the risks of terminal consumption and the lengthy evolution of the competitive landscape in the last round of the A-share new energy boom, and failed to exit in a timely manner, coupled with the huge changes in the financial market, resulting in a roller coaster of investment net worth. Of course, in the long run, there is still huge room for market growth, and in the medium term, a new cycle in the industry is about to begin after the industry undergoes the test of time. However, adjusting defensive strategies at the industry cycle's peak will also double the investment returns. Now, Buffett and Max have taught us a vivid lesson: "Excellent companies never have a selling point." It is an attitude, not a dogma. Learn from old Buffett and stay flexible—adjust your offensive or defensive posture based on the degree of overvaluation (high or low).

According to the rules of valuation and industry development cycles, it is very beneficial to determine the position in the cycle, which allows him to determine the appropriate route based on the current specific situation, just like driving carefully on an icy road at night is more cautious than driving on a sunny afternoon. Max said: "We must recognize the reality of the market, accept reality, and take corresponding actions." We cannot expect a more favorable set of market conditions to appear, but we can control our reactions in different ways—defensive or offensive. The valuation standard focuses on individual stocks rather than the overall market, just like the 33 times valuation (highest 55) carried by the new energy and biomedical sectors in 2021 supporting the A-share index to 3731 points, and the 46 times valuation (highest 76.5) carried by the seven giants in the US stock market in July 2024 supporting the Nasdaq index at 18671 points. The key indicators of a structural bull market are the valuations of structural sectors and individual stocks. Even with performance support, investors need to consider whether valuations that easily surpass 50-60 times, constantly reaching new highs, will continue.

The market always shifts to the other end of the pendulum. Individuals should not resist the force of change, as this is like praying mantis trying to stop a car or a flea shaking a tree. Instead, we should follow and utilize the trend. Max said, "I don't try to control the future, I don't know what the future holds, I just try to prepare for the uncertain future." If investors are out of touch with their environment and behavior, ignoring or rejecting reality, they will get into trouble. Product structure, 10-30 billion yuan products operating income of 401/1288/60 million yuan respectively.

If Buddha were a hedge fund manager, he might say that change itself is not the root cause of the problem. Instead, when we expect or desire things to remain the same, we are bound to suffer in investing and in life. As Buddhist teachings point out, we must acknowledge that all phenomena in the world are temporary, so that we do not feel surprised or frustrated when things change. Toshiyuki Suzuki said, "If we don't accept that all things are subject to the law of change, we can't keep calm."

From the perspective of finance, the inevitability of change is of great significance. First of all, we should acknowledge that the current economic situation and market trajectory, like other things, are temporary phenomena. Therefore, when we determine our position, we should avoid the path we have taken before. As Max pointed out, investors repeatedly make mistakes, repeatedly overestimate the persistence of market rises or falls, forgetting the fact that nothing is eternal.

Similarly, many homebuyers went bankrupt during the financial crisis because they were burdened with too much debt, and they thought that house prices would rise and never fall. Before the outbreak of the epidemic, Chinese real estate investors also thought so. A distant relative of mine once told me that if you have money, you must buy a house. He has made a profit from buying houses for decades without making any mistakes. But the changes in the real estate market today have left many Chinese families dumbfounded and heartbroken as property values have gone down.

The world is impermanent and complex, but in the midst of complexity, there are certain rules governing the development of things. Just like the famous painter Lu Boping's "Freehand Lotus Pond," which embodies the beauty of abstract interlocking, layering, and order in the midst of complexity and density.

Our goal both in the market and in life is not to take reckless risks or to avoid risks altogether, but to take risks wisely while never forgetting the possibility of bad results. We don't want to be cowards, but reliable and wise investors. When investors are too timid, "risk aversion" turns into "income aversion."

"Moments" from the "Mindfulness Sutra" requires us to "be mindful at all times" of everything that comes before us. Here, "things" include not only the bullish securities market, but also the long bear market. When they (including our thoughts, feelings, and sense perceptions) appear and disappear, we should observe them calmly. We should be clear in our hearts that everything is temporary, and the cyclic pendulum will surely return. We just need to know the location of the cycle and do the right thing at the right time. In this way, our mind will no longer be bound.

Seven Investment Tips from Howard Marks

• Acknowledging that one cannot predict or control the future is crucial.

• Studying historical patterns and considering what might happen next by learning from history.

• Cycles will inevitably reverse, and reckless behavior without considering the consequences will be punished.

• The cyclical nature of development can be utilized by me.

• The secret to achieving long-term success in an uncertain world is to maintain a humble, skeptical, and cautious attitude.

Life is extremely complex, but remembering simple and practical insights can help us organize our scattered thoughts.

Editor / jayden