Howard Marks latest piece made a commonsensical though forgotten in our day-to-day: overperformance requires differentiation. He breaks down this tenet in 3 more basic principles:
- Define an explicit investment creed with sound principles;
- Define what success is for you;
- Are you willing to be different? And wrong?
As a Brazilian investor, I`m used to hear from potential investors that portfolios of local funds look too similar despite somewhat different investment thesis on the same company. At the end of the day, skill defined as intellectual capability is on average very similar across different investment firms.
Although, as Marks cleverly puts it, “there’s only one thing in the investment world that isn’t two-edged, and that’s alpha: superior insight or skill.” Even not being a big fan of what the term ‘alpha’ coins as my principle guides me towards great absolute long term performance, i.e., mid-teens, insight or skill as he frames it is perspective for me, not higher IQ (or EQ). This “eternal preparation” B.S. definitely works, though in the longer term. Our minds are biased towards shorter timeframes, so it’s nearly impossible for human beings speak out they are long term investors and indeed become one. As the old proverb says, “easier said than done”.
Another way to be different is through concentration
. Without preparation though it is nearly impossible (imprudent would be the best fit here) to have a concentrated portfolio. With experience and mental models lacking, one can’t overperform in the long run. So if you want to dare to LOOK
wrong, better be prepared.
Thinking of the big picture forces me to read Marks’ comments. In his last memo, he goes on generalization issues; extrapolation risks which we oftentimes incur but shouldn’t; the role of PRICE as a proxy of risk, despite the asset class – for example, bonds today seem way riskier than equities; the concept of ERP – the one he likes the most is “the margin by which equity returns will exceed the risk-free rate in the future” and that can’t be read anyplace; three psychology-descriptive stages of bull and bear markets and so on.
Bottom line he is constructive on equities, since “A move upward can be powered by a switch from the fear of losing money to the fear of missing opportunity. When attitudes are moderate & allocations are low, it doesn’t take much.”
Howard Marks makes his point about what puzzles him the most in investing saying “Many of the important things in investing are counter intuitive.” and as Einstein has said once: “Not everything that counts can be counted, and not everything that can be counted counts.”
In Howard Marks last piece he goes through cycles rationale, how history rhymes as time goes by and the propensity of humans toward risk taking. The latter naturally has to do with behaviorism and how it affects returns. Behaviorism and being a contrarian at right time is a path to success. Below follows some quotes from the document:
“It’s not asset quality that determines investment risk. (…) But, all other things being equal, the price of an asset is the principal determinant of its riskiness.(…) Bottom line: No asset is so good that it can’t be bid up to the point where it’s overpriced and thus dangerous. And few assets are so bad that they can’t become underpriced and thus safe (not to mention potentially lucrative). Since participants set security prices, it’s their behavior that creates most of the risk in investing.”
“Becoming more and less risk averse at the right time is a great way to enhance nivestment performance.”
“To be a successful contrarian, you have to be able to:
- see what most people are doing,
- understand what’s wrong about most people’s behavior,
- possess a strong sense for intrinsic value, which most people ignore at the extremes,
- resist the psychological pressures that make most people err, and thus
- buy when most people are selling and sell when most people are buying.”
“”There are times for aggressiveness. I think this is a time for caution.” Here as 2013 begins, I have only one word to add: ditto.”