We Study Billionaires - The Investor’s Podcast Network - TIP 073 : Billionaire Howard Marks - The Most Important Thing (Investing Podcast)

Starting point is 00:00:00 We study billionaires, and this is episode 73 of The Investors Podcast. Broadcasting from Bel Air, Maryland. This is the Investors Podcast. They'll read the books and summarize the lessons. They'll test the waters and tell you when it's cold. They'll give you actionable investing strategies. Your host, Preston Pish, and Stig Broderson. Hey, how's everybody doing out there?

Starting point is 00:00:30 This is Preston Pish, and I'm your host for The Investors Podcast. and as usual, I'm accompanied by my co-host Stig Broderson out in Denmark. And today we've got a book. And this one was written by a billionaire, and that is Howard Marks. And for anybody in the investing community, particularly the value investing community, Howard Marks is a very famous name and somebody that a lot of people follow quite closely. And the name of his book, he's written one book, and the name of the book is the most important thing. And it's uncommon sense for the thoughtful investor.

Starting point is 00:01:02 and Warren Buffett's endorsed this. I see his really short endorsement on the front of it. It says, this is that rarity, a useful book. So he has a bunch of people that have endorsed this. Seth Clarman, John Bogle, Joel Greenblatt, all the big names have endorsed this book. And for the most part, I thought it was a good book. I wouldn't say that this is hands down the best investing book that a person should read. But I think that it's something that's very important and it gives very sound advice, and I think it's a very good refresher for maybe people that have read the intelligent investor and some of the books that are a little bit more complicated. I think that this is a great book to just listen to on like your audible device or I wouldn't necessarily say you have

Starting point is 00:01:46 to actually get the hard copy. A lot of investing books, you really kind of need to get the hard copy because there's math in it or there's charts or equations and things like that. This wasn't one of those kind of books. This book was more one that you could just put on and listen to, and it's just giving you good sound advice and things to think about to mitigate your risk is the best way I could describe this. So, Stig, did you have any opening comments on your thoughts of the book as far as whether you liked it, didn't like it or whatnot? Yeah, I think I'm probably the same place with you are. I think it was a great book. Good book, perhaps not great. It's more like a philosophical book. I don't know if we can use that word for really an investment book, but it was kind of like,

Starting point is 00:02:26 this is how you should look at investing. If you do that, you have some principles for at least not losing all your money and then probably also to make a decent return. It was more that kind of a book, I'd say. Yeah, and we'll go through chapter by chapter to just kind of give people the highlights of the book so you can kind of see what we're referring to. But in general, a very good book. I liked it. It went pretty fast. How long did it take to listen to on Audible? It was like five or six hours, something like that. And some of the books, and you said the foreperson with a lot of numbers and so on. Like, sometimes you have to re-listen to it. Definitely didn't have to do that for this book. It was really easy, breezy with this book.

Starting point is 00:03:04 Yeah, it was easy to listen to. And it wasn't that long. It was pretty short. So, real fast, I'll give you kind of a background on Howard Marks. So Howard Marks was born in 1946. His net worth is close to $2 billion right now. He was born and raised in Queens, New York. So all the people from Queens out there, that's where Howard Marks was originally from. And he went to the Wharton School of Business for his undergrad, and then he went to the Chicago Booth School of Business for his master's. After that, he worked for Citigroup, starting in 1969 as an equity research analyst. So he was in stock starting out. And then by 1985, he went into high-yield bonds and convertible securities.

Starting point is 00:03:44 So he was dealing with, I think a lot of people in the industry, when you're working in fixed income, that's the more sought-after role because you're dealing with very large quantities of money when you're dealing with fixed income. So bonds and things like that. So after that, in 1995, he left with five other partners and then they opened up their Oak Tree Capital Management Company. And just to kind of get through some numbers on the performance of Oak Tree, which has been around since 1995, they've averaged 19% returns since that timeframe. So they've done really well, extraordinarily well compared to other investors out there. Well, at the time of writing, I should say, his company was managing $80 billion because that's what's written on his book here. And this book came out, what was it, 2011, I believe. Yeah, 2011 was when this book was published. So let's go ahead and dive into the book. All right, so here we go. Chapter 1,

Starting point is 00:04:39 Second Level Thinking. I really like this discussion. And what he's talking about with second level thinking is he says, most people that are in the market are just level one thinkers. And what he means by that is let's say that you have a company that their net income went up for the quarter. So the level one thinker would hear that, that the profit went up and they'd immediately want to go out and buy more of that stock because the profit's improving. And Marx really tries to caution people and give people an idea of how complex things can really be whenever you're looking at something like that. So let's just dig deeper and talk about second level. So a second level thinker would say, yeah, the profit went up, but how did they do that? How did

Starting point is 00:05:26 they get their net income to go higher? And was their revenue in lockstep with previous, you know, gains, if you will. So what you would do is you'd go in and you'd look at the income statement and say, yeah, well, their net income went up, but they pulled all these assets off their balance sheet and sold them. And that increased their income statement. And when we look on the income statement, You can see that the revenues have been contracting for the last, you know, five quarters or seven quarters. So they've got an issue with sales and generating revenue. And they're offsetting that by pulling things off their balance sheet. And that's just the tip of the iceberg for second level thinking.

Starting point is 00:06:03 I mean, most people that are in investing would hear that conversation that I just threw out there. And he'd be like, yeah, that's pretty basic stuff. So that might even be classified as level one thinking. So then he goes into even more discussion. and I really like the way that he laid this out in the book because what he's talking about is 100% true. And what, you know, the amateur or the level one thinker might be doing in order to buy, he's doing the exact opposite and he's selling in those circumstances because he feels

Starting point is 00:06:32 like he has more knowledge and a more robust background to understand what's actually happening. I think his main advice was that for you as an investor, you had to ask yourself, am I a level one thinker or a second level thinker? That's really the question you need to ask yourself. And if you're not a second level thinker, well, then you probably shouldn't be in the stock buying in the first place or at least you shouldn't be buying individual stocks. So another example, just a really generic example is that he's saying, okay, a company reports

Starting point is 00:07:00 nice earnings. So the level one thing might be saying, it's nice, I need to buy that company. And the second level thinker is saying, hmm, perhaps if so many people knows that and likes that, then it's probably overvalued. So it's just another small, you know, neat example. of how to think in different levels. And basically what he's saying is that if you don't think, as a second level, thinker, how can you be smarter than your other people? And you need to be smarter than other people to beat other people in the market. And that was his simple premise for this

Starting point is 00:07:28 chapter. All right. So everyone's going to like the second chapter in his book. And it's all about the efficient market hypothesis. Warren Buffett has a fantastic example. He brings this up in Howard Marks brings this up in the book where he talks about coin flippers. And I know anyone who's read about Warren Buffett, they've probably heard this example. But if there's people out in the audience that have it, I'm going to just to explain it to you from that vantage point so you understand what we're talking about. So Warren Buffett has this example that he likes to use where he says, if you lined up called a million people and they all had to flip a coin, okay, after the first coin flip, half of them would be out and then half of them would still be in because they had,

Starting point is 00:08:07 you know, called the correct heads or tails. And if you continued to do that time and time again, And after 10 times in a row, you might have, let's just call it 100 people left out of the group that you originally started with that had correctly forecasted every single coin toss in a row without any mistakes. And he said, whenever you have that, these people, these 10 people that would have correctly called their coin toss, they would most likely be going out and writing books and telling the world at how good they are at coin flipping and what they did in order to call the coin flip appropriately. He said, most likely these same people would be bragging to the opposite sex on how well they were able to forecast their coin flipping and whatnot.

Starting point is 00:08:50 And he just goes off and it's really kind of a fun conversation. But what he's really getting at is the chance of somebody just basically always being right whenever you're dealing with a large sample set. And so when you think about that from an investing standpoint, you can have people that have been doing really well in the market for, call it, 10 years, just because maybe they're one of those people. that are in the small portion of this sample set. But what Buffett then does is he kind of turns this conversation on its head and he said, that is true. Like that exists just based off of statistics, that rule and this law and everything exists. He says, but the one thing that they're not accounting for is what happens if everybody who was flipping the coin was from the same hometown and they all had the same teacher that taught them something? He said there would probably be something

Starting point is 00:09:40 to that. That makes it not normal a normal distribution anymore. And what he's getting at is, he says that all these people that have done extremely well in the market, they pretty much came out of the Graham value investing background and employ the same principles, which Warren, Buffett, Howard Marks, all these guys are employing these value investing principles taught by Benjamin Graham. So that's where he's like, that's what makes it different. And that's one of the arguments that he uses whenever he's typically debating this efficient market hypothesis stuff. One of the examples that Howard Marks uses in the book, he says he's talking about Yahoo whenever it was valued at $237 in 2000, but by 2001 it had plummeted to just $11.

Starting point is 00:10:23 And so he says, therefore, the market was wrong in at least one of these instances. And I totally agree with that. So I look, my personal view of how I see the efficient market hypothesis, I look at it a lot like weather patterns. I know that that's a really strange example, but let me explain. So whenever you talk about efficiency and the thesis for the efficient market hypothesis, I think has a lot of validity to it except for at the very end of it. So the thesis, and I'm going to generalize this, is that at any given point in time, the market is appropriately priced. I somewhat agree with that statement. Now, where I think it comes off the rails is whenever they say, and they

Starting point is 00:11:04 Therefore, you cannot profit from the market if it's always 100% efficient. That's where I disagree with it. Okay. And let me explain why. So if we were going to try to project a forecast of what it's going to be like in, let's just call it my old hometown, Pittsburgh, Pennsylvania, what's the weather going to be like tomorrow in Pittsburgh, Pennsylvania? I'm pretty sure you could project and predict what that's going to be like.

Starting point is 00:11:33 Very close. It's not exactly. You can't say the temperature is going to be 32.356 degrees. You can maybe say, hey, the temperature is going to be approximately 32 degrees at 9 o'clock in the morning. That's a future forecast. And what you're doing is you're looking at models and you're looking at pressures within the system of all those molecules and there's tons of things happening.

Starting point is 00:11:56 Now, am I going to say that the weather pattern is inefficient, that it's not operating? No, it's operating at an optimal environment where the pressures between highs and lows and everything are coexisting and they're optimized at any given snapshot in time. They are perfectly organized, based on the fundamentals and the pressures that exist. If you had to stop time, they are perfectly organized. But that doesn't mean that you can't project and see where things are going with a reasonable amount of probability. That's why I disagree with the efficient market hypothesis because I see financial markets operate in a very similar manner. There's pressures that exist. There's capital that's flowing from one asset class to another.

Starting point is 00:12:40 And when you can see the velocity of how that money's flowing from one asset class to another, you can make reasonable projections. So that's my opinion. It's kind of a strange opinion. I don't know if other people out there would agree with it. I'm sure if I told that to a college professor like Stig, they'd probably roll their eyes and say it is perfect and you can not profit. But let's hear Stig's opinion. I'm definitely one of those professors that don't believe in the efficient market hypothesis. And I'm sure people are listening to a show before.

Starting point is 00:13:06 We definitely discussed that quite a few times. And I'm really happy you actually had this discussion, Preston, because it kind of sounds like we feel that the stock might be overvalue, which we do. I mean, don't get us wrong anything, but it might seem like the market is always irrational. It's actually not. I definitely agree with Preston that to some extent it's somewhat efficient. I mean, there's a reason why it's priced as it is, and there's a reason why Berkshire is priced at $300 billion and not $80 million, right? It's not a complete coincidence. But you just really need to

Starting point is 00:13:38 understand that there's something called the long run, and in the long run, the market is very, very efficient. And then we have the short run, and then a lot of hiccups are just happening in the market. And just one more thing is that we're also often talking about the individual stock picks. So you might have an efficient market and you have tens and thousands of stock issues, but you just might have one or five stocks that are heavily overpriced, underpriced, and that still means that it might sound like it's extremely inefficient, but still might be somewhat efficient. So I'm really happy we had this discussion at Preston. Let me provide a real, world example, because this was literally in the news last night. And just so everyone knows, it's 29 January 2016. So last night,

Starting point is 00:14:17 Amazon, after the market closed, came out, and Amazon said that their revenues, and then they They had a decent profit that they had listed, but the revenues are really starting to drop off and starting to level out. I don't remember when we had this conversation. Maybe it was six months ago, maybe not even that long ago. I think maybe it was with James of Shaughnessy. We were talking about Amazon. I can't remember who the guest was, but we were there talking about Amazon.

Starting point is 00:14:42 And one of the comments that I had made was, hey, I understand how it's being traded. It's being really traded off of a multiple of the revenue. So whatever the revenue is is pretty much where the market can. cap is being traded at. And to me, that kind of makes a lot of sense because a lot of people would make the argument that Amazon could quickly change their algorithms and basically pull in a 10% profit margin if they wanted to, but they're not. Okay. So my argument at that point in time, I said, yeah, it's been growing like a weed, but you can kind of see that the revenues are starting to slow down a little bit. I mean, it's still growing very fast. Don't get me wrong, folks. It's

Starting point is 00:15:18 grown really fast. But you can start to see the revenues starting to slow down. And I said, on the show, I believe this is how the conversation went. And I said, once those revenues start to pull back and they start to plateau and you're dealing with the, I mean, this company's getting huge, massive. And growth at that level is a whole lot harder than whenever they were a couple hundred million dollars. I promise you that. So you're starting to see that with this last report that came out that the revenues are really starting to taper off and they're starting to plateau. And when that happens, you know, my projection, my opinion was that the stock is going to get punished. Now, I didn't have a time frame when I thought that could happen.

Starting point is 00:15:57 It could be, you know, next month. It could be in a year. I didn't know the timing when that happened. But what I was doing by that having that conversation is identifying the risk of why I don't own Amazon. I think it's a great company. Don't get me wrong. I love the company. I use it all the time.

Starting point is 00:16:14 But I found that at that point in time. in that discussion. I was not going to take a position because of that inherent risk. So this goes to this efficient market hypothesis. A person, you know, an efficient market hypothesis would say it's impossible to project what's going to happen to the stock and that, you know, it's, you cannot profit from that. And this isn't really a profit, but a protection of principle discussion. But whenever I was looking at that, I see that as a lot of risk. It has a lot of downside, in my opinion, as things would change in revenues are starting the plateau out. Sure enough, as that news came out last night, the thing was down like 7% as soon as the news came in the aftermarkets.

Starting point is 00:16:51 It was down like 7% as soon as the news came out. And who knows what's going to happen now moving forward? It could rebound. It could go down even further. I don't know. But I do know that I think there's a lot of risk in the price whenever it's being traded at that multiple because I think they have issues bringing in that kind of margin. I really do. And sustain their competitive advantage.

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Starting point is 00:21:16 All right. Back to the show. One of the thesis about the efficient market hypothesis is that we all have access to the same information and that information is priced into the current stock price. And I just think that the idea is wrong. because basically the premise is that you need to be able to predict the unpredictable before we can beat the market, which is somewhat true if you think that everyone has the same amount of knowledge. But again, here we are. And even Preston, my business part, we talk about all the time. We don't have the same knowledge about Amazon. So how can I expect that everyone in the world that is able to trade Amazon millions and millions of people all have the same knowledge and therefore price Amazon the same way? I just think that if you think about the thesis behind what, why the market should be efficient at all times.

Starting point is 00:22:05 I just think it's wrong. So that was basically my point here. Okay, so in chapters three and four, I'm going to kind of combine these. Chapter three is titled Value and then Chapter 4 is titled the relationship between price and value. Marks takes the exact same stance as Warren Buffett. And what he's talking about is you as the investor, you have to figure out what the value of the business is. And you're obviously using some type of discount cash flow analysis or some type of value. to determine what you think the intrinsic value of the business is. And then what he talks about

Starting point is 00:22:38 is the relationship between this price that it's being traded for on the market and the actual value that you determine it to be. And I think that this discussion for anybody that maybe is joining the podcast and hasn't listened to some of the earlier episodes or you've gone to Buffett's books and watched any of our videos there, we go into a lot of detail describing different approaches to value stocks. So if you're listening to this for the first time and you don't know, know how to do any of that or you'd like to learn how to do it. Go to our website Buffett'sbooks.com. It's 100% free over 10 hours of video content that teaches you this kind of stuff. So with that, I'm probably just going to move on because his comments were very similar to

Starting point is 00:23:17 Warren Buffett's. And the main thing, which he gets into Chapter 5, which is understanding risk. And what he's talking about there is he's talking about one of your biggest risks is really the price that you're paying. And making sure that you have a margin of safety built into the price that you pay. So if you determine that a stock is worth $100, okay, you are not going to go and pay something that is, you know, $140 for something that you think is worth $100. And that conversation is so important because what I think a lot of people don't realize is every time that you pay a premium over something that you think it's worth, let's say you paid $140 for something that you thought was worth $100, you're paying that 40% premium. You've already handicapped your returns into the

Starting point is 00:24:03 future. You've already determined with a lot of probability that your returns are going to be significantly lower than what they would have been if you were able to buy it at $100. And so I think a lot of people don't think about that. I think most people don't even really understand the conversation. But the faster that people can realize that and understand what he's talking about in that section, the faster I think they're going to really kind of protect their downside and perform quite well in the markets because they're going to be minimizing their risk. Yeah, I really like this discussion about how any asset is really attractive at the right price and how any asset is not attractive at the wrong price.

Starting point is 00:24:40 And just, you know, to take a current example, Preston, I know that you have been looking at shorting junk bonds. And that's not because junk bonds per se always should be shorted because, hey, it sounds like junk, sounds like a bad asset, we should short that. No, you're looking at what's the value and what's the price. And you simply need to compare those two all the time. Like, I would assume that you would go long in junk bonds if you could buy it. like even horrible junk bonds for one cent, right? But you can't do that. So they're priced high.

Starting point is 00:25:06 So that's why you're showing them. So I think that's really something that we need to understand with Harder Marx is that, again, any asset is attracted at the right price and wrong if it's priced too high. Yeah. And I think that that's a fantastic comment where you're talking about, hey, a lot of people would say, I won't buy that. I refuse to buy that. Well, if the price was a penny, would you buy it? And so you always have to have this conversation of, of there can be a right price, regardless of how much risk is associated with something. And I think that that's one of the key points that Howard Marks talks about in this book. And I'm really glad that he did because that's a conversation that a lot of people typically don't have.

Starting point is 00:25:44 Now, relating this back to Benjamin Graham's book Security Analysis, he talks about this idea as well. And one of the key things that he wants people to understand is that you always, always look at protecting your downside risk before considering the yield. So let's say that you could buy something at a severe discount, really cheap price, and you could get a 30% yield on it if you, you know, let's just talk fixed income. It'd be expected to do a 30% yield, assuming that the principal would be paid back at the end. He says, before you just go out and chase that yield, you have to have a very thorough and deep understanding of what your chance of default is. And that needs to be your first consideration opposed to the yield. A lot of people put the carp before the horse and they're just like, I could make 30%. And they don't even think about what the probability of default is on that purchase.

Starting point is 00:26:40 And just in continuation of this, press, I really want to address one quick point. That's one of the things in the book where he's talking about being ahead of your time and being wrong. And those two things can be very difficult to separate sometimes. Like just because you profit from an investment, it might still be a bad investment. You might still have a value at the risk wrong. And even though that you lose money on investment, like the calculation that you're making, the assessment you're making might still be correct. And that's really the problem with stock investing.

Starting point is 00:27:07 It's not like if I were to discuss football with Preston. And I would say, hey, I think that the Steelers will win this weekend. And Preston would probably say that, not me. And we will figure out really, really fast, like, whether or not I was right or wrong. It's not like that whenever you're doing a bet in the stock market. Like, when does this end? It's not like the end of a football game. Like, when are you right or when are you wrong? And this is really a philosophical discussion that how

Starting point is 00:27:32 it marks has in this book. And I think that's really important, especially times like this, like when the market is dropping, if you think, hey, I might have done something wrong. Well, perhaps you have. But it's really the whole idea of are you just ahead of your time or are you indeed wrong whenever you are assessing your decision. Hey, I wanted to provide a quick update because I told people that I would do this with that high yield bond short position that I was putting on. So I put that on at the beginning of December. Since December, here we're almost two months later at the end of January. And I'd say it's up three to five percent since I put that on. So compared to the stock market from where I put this on,

Starting point is 00:28:12 I think the stock market's down, what, 10 to 15 percent since I put that on. That position has beat the stock market so far. Let me emphasize so far, it has beat the stock market by about, I'd say, close to 15%, which is great. That's awesome place. So far, that's worked out pretty well. I'm continuing to hold it, and we'll see where things go from here, but I just wanted to provide an update for people on it. Just so people know, I'd much rather recommend a cash position than to do something like this. I think that, you know, if you would have been in cash whenever I put this on, you would have beat the market by like, call it 10%. So I just want to emphasize that. Let's go ahead and keep moving with the book, though. So the next section that we're going to talk about, and he gets into

Starting point is 00:28:54 this whole discussion of risk, which Stig and I just kind of really covered in Chapter 7. But then he goes into Chapter 8 and he talks about being attentive to cycles. And I loved this conversation. And this is something that you typically don't hear a lot of value investors talk about. So I really, really like the fact that he brought this up in the book. And what he's talking about is the credit cycle. And he's saying, you really need to have an understanding of where you're at in the credit cycle. Because if you don't have that situational awareness of where you're sitting in time,

Starting point is 00:29:23 in reference to where the cycle is at, you're just kind of setting yourself up for failure. And I totally agree with that statement and this section. I was really happy to see this. So he even lays out some basic principles of determining where you're at in the credit cycle and kind of having an idea when maybe the market's getting a little overpriced and risky. I think that's probably the best word to use is he's giving you tools in the book to identify whether he thinks that the credit cycle starting to assume a lot of risk at where it's at. And so one of the examples that he uses is whenever high-yield bonds,

Starting point is 00:30:02 and you've got to remember he did some time as a high-yield bond, junk bond trader. So he understands us quite well. He says when high-yield bonds start to really elevate and yield, and the yield starts to take off, you're probably entering kind of a period where you're at the end of a short-term business cycle or a credit cycle, whatever you want to refer to it as. So, and that's what we're seeing in the market right now. That's why I put on the short for high-yield bonds.

Starting point is 00:30:26 So you're seeing that one critical variable. He also talks about some other variables. He talks about profit margins for companies going down. We're seeing that happen. He lays out a few others. I don't know if Stig remembers all the ones that he lays out in the book, but the conversation is really refreshing because most value investors don't talk about this and they just completely ignore it altogether.

Starting point is 00:30:47 People should definitely watch the Red Alley video, which we shamelessly advertised. It's a free video, though. We shamedly advertised like hundreds of times on the podcast because Ray Dele does that even better I want to say and also like it's animated. And then also thought that Preston is going to be really happy about having chapter 8 about cycles included in a value investing book. That was my two thoughts. I was listening to it. I was like, oh, this is awesome.

Starting point is 00:31:11 Finally, somebody from the value investing community is pointing this stuff out. And you know, here's what I think a lot of people failed to recognize with Warren Buffett specifically. is, although Buffett doesn't talk about it, he puts it into practice and he does this. Okay. And you can see that he does it by just looking at his balance sheet and looking at the way that he invest. You know, if you look at Workshire Hathaway's balance sheet, in the last year, you can see his common stock holding is decreasing. Now, it's not decreasing at a rapid pace because he's a guy who holds because he's got

Starting point is 00:31:44 enormous capital gains that he'd pay if he sold. So, like, he's not going to sell Coke. He makes more on the dividend than he does. with his original purchase price. So why in the world would he sell that? He's not going to sell it. But if you look at his balance sheet, you can see that his common stock position has decreased by, this is off the top of my head, and I hadn't looked for a while, but I'd say $10 billion to $15 billion over the past year. So he's decreased that position by about 10%. You look at his cash position. His cash position is like almost $70 to $80 billion or something crazy like that.

Starting point is 00:32:16 He's increasing, and his cash position just keeps growing. So for people, people to think that Warren Buffett isn't being attentive to credit cycles, I tell you that I totally disagree with you. I think he's putting this stuff in the practice. But the only difference is Howard Marks is writing about it. Warren Buffett doesn't write about it because I don't think that Warren Buffett wants people to go out there and try to quote unquote time the market, even though that's not what I would call it. I would say he's managing his risk appropriately through proper asset allocation as time progresses in the credit cycle. That's how I would describe it.

Starting point is 00:32:54 And for me, I was really excited to see Howard Marks do this. So then in chapter nine, Marks talks about the title of that chapter is awareness of the pendulum. So what he's saying is that all these things go in cycles, whether you're talking about commodities, fixed income, you name it, currencies, they swing like a pendulum. And so when you've got something that's swinging in one direction, you have to have awareness of where you're at in that swing. Are you out at the left limit? Or are you out at the right limit? Or are you at center mass with accelerating to the other side? And that's what I love this analogy. I love this discussion because when we look at current market conditions, let's talk

Starting point is 00:33:30 about where that pendulum's at right now. Okay. Oil, I know we talk about it all the time, but if you think that oil really has a lot more to lose, I don't think that it has a whole lot more to lose. Okay, I think that this thing's getting ready to be pegged out at the limit. Heck, it might have already been pegged. We're seeing the price got down to like $26. It's already come back up to like 33. I'm still holding tight, but when I think about this analogy of where the pendulum's at, this thing's way out there.

Starting point is 00:33:57 It's out at its limit. It's getting ready to come back the other way. And I think for anybody that doesn't agree with that, I think that you're maybe missing a big opportunity here in the long run. I will emphasize. I still haven't taken a position. That doesn't mean that I'm not watching the, this very closely and might be missing it. Stiggs, you know, obviously in. So maybe he's the smart

Starting point is 00:34:16 guy. I don't know. Well, I'm $7 more happy than I were like a week ago. I don't know if you can put it like that. Yeah, but I really like the analogy he had about a pendulum. I never heard about that before. And I think it's really nice. We had James Ashana say on, who Preston talked about earlier here in the podcast. And, well, he didn't use the same analogy, but he was saying the same thing. Like, whenever he was back testing, it might look like, well, we had a few drawbacks here and there and then we had a bull market, whatever. But in the long term, it looks fine. But he's also saying that when you're in the middle of it, you know, things can flip so fast. And if you have this short-term horizon, it can be really bad because you don't know when it will flip. And when we're

Starting point is 00:34:54 talking about all price, we don't know when it will flip, but we can always say, like, which direction is it going to, like the big swing? Is that going up or is it going down? And it's probably going up. So that's the point from this chapter. Let's take a quick break and hear from today's sponsors. No, it's not your imagination. Risk and regulation are ramping up and customers now expect proof of security just to do business. That's why VANTA is a game changer. Vanta automates your compliance process and brings compliance, risk, and customer trust together on one AI-powered platform. So whether you're prepping for a SOC 2 or running an enterprise GRC program, VANTA keeps you secure and keeps your deals moving. Instead of chasing spreadsheets and screenshots, VANTA

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Starting point is 00:38:18 risks, charges, and expenses. This and other information can be found in the income fund's prospectus at fundrise.com slash income. This is a paid advertisement. All right, back to the show. The other one that I want to talk about is the currency of the U.S. dollar. I think that the U.S. dollar is just, I mean, at epic levels as far as its strength. And I think that it really has nowhere to go but down at this point. Now, I'm holding a lot of dollars and waiting for that opportunity to put that to use in other sectors. But I recognize the fact that when we're looking at and thinking about this from a pendulum standpoint, this thing is pegged out at its limit. It's getting ready to swing the other way. And I think that the catalyst for that happening is the Fed,

Starting point is 00:39:05 basically saying that they're going to do more quantitative easing, do negative interest rates or whatever. They're going to have to do some major adjustment here to offset this strong dollar because it's killing emerging markets. And so as that continues to happen, I think, the Fed's going to have to change your policy. That's going to cause the pendulum that starts swinging in the opposite direction. And that's whenever I'm going to change, you know, the way I'm seeing things. But when we look at it, those are the two big things that I'm seeing right now that are definitely at limitations with where the pendulum's at. All right. So I was expecting this episode to be kind of short. And it's actually going a little long. And so what I'm going to

Starting point is 00:39:41 stop doing is just going chapter by chapter. And I want to talk about three main points that I had for the rest of the book that I felt were really important. And then Stig, I'm sure, has some other points that he's going to want to talk about and then we'll just kind of wrap it up. So one of the things that he talks about later in the book, I'd say this is like in the last quarter of the book. He talks about probability distribution. And I really like this discussion because what he's talking about is at any given point

Starting point is 00:40:06 in time, there's this array of potential outcomes. And I think that that's something that a lot of investors don't think about whenever they're buying an individual stock or an index or whatever. So let me just talk about this from current market conditions. So when we look at the S&P 500, my opinion is that the S&P 500 is going to continue to get pushed down in the long term. That's my opinion. So if I was going to say a probability of that happened and I'd say, you know, I have a 75%

Starting point is 00:40:33 confidence that the S&P 500 is going to continue to get punished throughout 2016. That's my opinion. So that's what it would be like, do you ever see these weather forecasts where they do a hurricane that's tracked to hit landfall. And when it's five days from hitting landfall, they've got this kind of path. And it's like this array of options of where it could go. You got a left limit, you got a right limit, then you got the most probable direction for it to travel. And when this thing's way out there and it's got a ways to go and there's many days before the storm will hit landfall, the array is really wide and the potential for it

Starting point is 00:41:08 hitting something here is state side. It might be from the tip of Florida clear up to like, you know, South Carolina or something. It's got this wide path that it could hit. And I think about that graphically in my head as I'm thinking about this array of things that could happen in financial markets. So like my example of the S&P 500, you know, the Fed could come out literally next week. The Federal Reserve could just change their minds, change everything and say, we're going to launch massive quantitative easing, you know, next week. And if they did that, the market, in my opinion, the market would go wild. Now, who knows if it would, but my opinion is the market would go wild if something like that happened. And so that is a potential. That is something that could

Starting point is 00:41:48 happen. And I think people when they're thinking about risk and they're thinking about a probability distribution of what could happen, a lot of people don't consider what bad things could happen. They only account for what good things could happen to their investment. So they'll take that position. Let's say you take a short position in the S&P 500. It could go down. It could go exactly what your expectation is, or you could have something crazy that happens like the Fed coming out and changing their policy, and then it starts going in a different direction. And so people have to be prepared and think through all those different options and understand what that distribution might look like. Because for people that don't understand the distribution, they're not accounting

Starting point is 00:42:28 for risk appropriately. And that's what he's really talking about in the book. And I love that conversation. So one of the high points that I want to talk about is this idea of you, want a specific asset class or specific stock in your portfolio. And this is one of the things how Mark talks about and saying how that is the wrong way of looking at investing. So you would have even advisors saying to you, well, you should always have 20% in bonds or your age in bonds or whatever he's saying. And that like from an investment perspective, especially if you're an active investor, that just doesn't make any sense at all. Like you would buy the best possible assets. You would buy them when they're cheap. And you would not, perhaps you would sell them

Starting point is 00:43:09 when they are overpriced. Now, there might be a lot of different reasons why you wouldn't do that. And we talked about Warren Buffett's investment in Coke before. He had to pay a lot of capital gains. But the intuition is still the same. And this actually goes back to the thing we talked about being attractive at the right price and not being attractive at the wrong price. So just for you guys out there, if you ever hear about the optimal portfolio in terms

Starting point is 00:43:32 of you should always have 30% in domestic stocks or 70% international stocks. that just doesn't make any sense. At least that's one of the points in the books, and definitely agree with that. Also, because what would typically happen is that you will not get a sufficient return. And this was another thing about risk that I really like. And what he's saying is that you will often hear an investor saying, I need to take on more risk to increase my return.

Starting point is 00:43:58 Because there's this idea that the more risk you take, the higher the return will be. But if you think about that, it really doesn't make that my sense because if you can just take on more risk to achieve a higher return, turn, by definition, that wouldn't be risky. So that was one of those small quirks that I really liked about the book that his philosophical approach to when you hear a statement, why that statement would be wrong and how to think about investment. I definitely like this one he had about how to assess risk and how you shouldn't be predetermined of what you want

Starting point is 00:44:28 to own. It's always depending on the current market conditions. So one of the conversations that I liked in the book as well was this idea of defensive player versus a an aggressive player. And the example that he uses is tennis, which I really liked because I think about this all the time whenever I try to play tennis because I'm a total amateur on the tennis courts. And I've always had the opinion, it's probably rooted in my idea of investing, that whenever I play other people that are amateurs or moderately good, my approach was always to play very defensive and just keep the ball in play and let them make the mistake. And it's interesting to hear Howard Marks talk about this analogy of tennis whenever he's talking about investing. He says,

Starting point is 00:45:11 pros, a professional player, they can hit those winners and those really hard shots. They can blast it down the line. They can put it back in the corner and they can do it with insane accuracy and consistency. He said, but the amateur person that goes out there and plays, they can't do that at all. They're going to miss it wide. They're going to hit it long. They're going to hit it into the net. And so he says, if you're an amateur and you're not this person that's just like highly trained and just very skilled, he said, your chances of winning are so much higher if you just take the risk free play of just keeping the ball in play, just hit the shot, keep it in play, and force the other person to have the air. And I totally agree with that. And he said, you have to know where you're

Starting point is 00:45:53 at. You have to know your own capabilities and your own skill sets and know your limitations in order to do that is the person who doesn't know that they're going to hit the ball along because they just want to hit it hard. They're going to make that mistake time and time again and they're going to lose the match overall because they're just not aware of their own limitations. And so when you think about that from an investing standpoint, you are the only person that really knows how much you know. And so if you are just over aggressive and you're out there buying individual stock picks and you can't even, you know, tell a person, you know, what some of the lines on an income statement are or on a balance sheet, you're probably not being realistic with what your actual knowledge is and what your

Starting point is 00:46:34 capabilities are. And when that happens, his opinion is you're going to lose the match. And so he said, his philosophy at his capital investment company has always been to just keep the ball in play and keep it simple. And I totally agree. I think that that is such sound advice and good advice for people to follow. I'm so happy, Preston, that you brought this point up. That was actually my last point I want to talk about this book. That was really nice. And I just think that. I just think that, That is interesting because whenever I started looking into value investing and obviously I read about Warren Buffett and I heard about some of his investments and how he made his analysis. And like in a way I was very impressed, but I was also very depressed because I was thinking,

Starting point is 00:47:13 how can I ever be smart enough to make the same investment decisions as Warren Buffett? It just seemed very complex to me. And it still does. Like thinking like Warren Buffett, even though I do what I can, no, I'm probably okay with me never being at that level. So I'm not thinking about, as president saying, like hitting the winners. I'm not thinking about playing tennis like, man, the first name that came to mind was like, Andrew Agassi.

Starting point is 00:47:39 Man, I'm old. But Roger Federer. Yeah. Sorry about that, guys. So you might not be like the very best at what you're doing. But as long as you're not making horrible mistakes, you're probably going to be fine. And what he's saying is that the outstanding investment career, They're typical very short, not for super investors like Warren Buffett, obviously.

Starting point is 00:48:01 But investments in careers doesn't end because they don't have enough winners, particularly because they have too many losers. And that's something I think a lot about. Rule number one is really, again, not to lose money. Really think about risk that way. You know, spend 9% of the time thinking about how not to lose your money. And then with the remaining 10% of your time, thinking about how can I pick the best stocks. All right, guys, that's all we have for you.

Starting point is 00:48:26 the name of the book was the most important thing. We like the book. It was very good. If you'd like to listen to this book for free, 100% free, go to our website, the Investorspodcast.com. And if you go to any of the show notes pages, you're going to see at the bottom that we have a link for a thing called Audible. Audible.com. It's through Amazon. It's an Amazon service. So all the books that they have on Amazon that are in an audio format, that, Audible is the service that Amazon has, the application that you install on your smartphone that Amazon has. So if you want to download that audible book, the most important thing by billionaire Howard Marks, you can go use that link and you can download it for free and listen to it. But you've got to use our link in order to get the benefit of having the first book for free.

Starting point is 00:49:09 So that's what we recommend. That's how I listen to this book. And it was very useful. I really liked it. And that's just a service that we have on our website for all of our listeners. So we're going to skip the question. I think what we're going to do is consolidate questions into the future for episodes, and we'll play some here and there at the end of episodes. But if you want to record a question, get it played on our show. Go to AsktheInvesters.com. For anybody that records a question, and we'll send a free signed copy of our book, the Warren Buffett accounting book. We really appreciate everyone. I know we send out newsletters. We ask people to write reviews for us on iTunes. And when people do that, we really, really appreciate it.

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We Study Billionaires - The Investor’s Podcast Network - TIP 073 : Billionaire Howard Marks - The Most Important Thing (Investing Podcast)

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