Howard Marks: It’s Time To Play Offense. ‘Waiting For The Bottom Is Folly.’

Howard Marks set a personal record for most memos penned in a single month in March, and as of Tuesday, he’s already got one under his belt for April.

Writing last week, Marks expressed more than a little caution about the outlook going forward.

He cited, among other things, elevated leverage for the US corporate sector headed into the crisis, a series of potentially dire repercussions from plunging oil prices and a list of worries about the dollar and America’s finances under a version of MMT.

Read more: Social Isolation, Disease, Depression And MMT – Sorting Through The Latest From Howard Marks

He also captured the gist of the increasingly contentious debate between those who claim the virus isn’t deadly enough to warrant strict social distancing and businesses closures and those who aren’t willing to take what amounts to a utilitarian plunge.

“The longer people remain at home, the more difficult it will be to bring the economy back to life, but the sooner they return to work and other activities, the harder it will be to get the disease under control”, Marks wrote.

His last memo closed on a decidedly downbeat note. “Today the range of negative outcomes seems much wider [than the GFC]”, he remarked, adding that “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”.

Ultimately, he said he expected asset prices to decline further.

Well, fast forward a little more than a week and Howard’s ready to buy – that’s too simplistic, but it captures the thrust of his latest missive.

After recapping some key points from his March memos, Marks writes that he’s become convinced in recent years that in the intermediate term, the fund manager’s most important job isn’t to decide on allocations or pick strategies.

Rather, “the most important job is to strike the appropriate balance between offense and defense”, he says. After all, Marks quips, “those other things won’t help much if you get offense/defense wrong”. He offers this eloquent (if somewhat nebulous) bit:

One way to think about the balance between offense and defense is to consider the “twin risks” investors face every day: the risk of losing money and the risk of missing opportunity.  At least in theory, you can eliminate either one but not both.  Moreover, eliminating one exposes you entirely to the other.  Thus we tend to compromise or balance the two risks, and every individual investor or institution should develop a view as to what their normal balance between the two should be. 

Marks’s view over the past several years has been that the market was characterized by elevated uncertainty, low prospective returns, fully-valued assets and an overtly pro-risk lean from investors searching far and wide for higher returns.

“These things told me the world was a risky, low-return place”, Marks says, but suggests the selloff associated with the virus has changed the landscape. To wit:

As opposed to the conditions of 2, 6, 12 or 24 months ago, the risks in the environment are recognized and largely understood, prospective returns have turned from paltry to attractive (for example, the average yield on high yield bonds ex. energy has gone from 3½% to almost 9%), security prices have declined, and investors have been chastened, causing risk-taking to dry up.

He does, of course, acknowledge that the fundamentals could get materially worse, and he’s careful to emphasize that he is “not saying the outlook is positive”. What he is saying, though, is this:

Conditions have changed such that caution is no longer as imperative. With part of the crisis-related losses having already taken place, I’m somewhat less worried about losing money and somewhat more interested in making sure our clients participate in gains.

As for whether you should wait for the elusive “bottom” to buy, Marks says unequivocally “no”.

For one thing (and I certainly hope this is self-evident to most readers), you cannot know ahead of time (or in real time) when the bottom is. That can only be known in hindsight. As Marks puts it, in retrospect we’ll know it because “it was the day before the market started to go up”. He then delivers this classic bit on bottom-calling:

By definition, we can’t know today whether it’s been reached, since that’s a function of what will happen tomorrow.  Thus, “I’m going to wait for the bottom” is an irrational statement. 

Howard also says you should think about the current situation the way you would in more normal times – that is, don’t lose your perspective just when you need it most. To wit, from Marks:

The old saying goes, “The perfect is the enemy of the good.” Likewise, waiting for the bottom can keep investors from making good purchases.  The investor’s goal should be to make a large number of good buys, not just a few perfect ones.  Think about your normal behavior.  Before every purchase, do you insist on being sure the thing in question will never be available lower?  That is, that you’re buying at the bottom?  I doubt it.  You probably buy because you think you’re getting a good asset at an attractive price.  Isn’t that enough?  And I trust you sell because you think the selling price is adequate or more, not because you’re convinced the price can never go higher.  To insist on buying only at bottoms and selling only at tops would be paralyzing.  

So, you buy what’s cheap relative to its intrinsic value, and if it gets cheaper, well, then you buy some more of it.

Of course, he admits that the lows may be retested. Below is a chart using some data presented in Marks’s memo (it just shows that markets don’t generally evolve in a straight line at times like these, something I emphasized early Tuesday in “So You Wanna Be A Grizzly Man?“).

In closing, Marks says “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”, he adds.