January 10, 2025
By Steve Blumenthal
“The investor who says, ‘This time is different,’ when in fact it’s virtually a repeat of an earlier situation, has uttered among the four most costly words in the annals of investing.”
– Sir John Templeton
Howard Marks is a legendary figure in the investment world. He embodies the rare combination of intellectual rigor and humility. As the co-founder of Oaktree Capital Management, established in 1995, Marks built his reputation not by making flashy predictions or chasing market crazes but through thoughtful analysis and a deep respect for market cycles.
His most distinctive contribution to the investment community has been his candid and insightful memos, which he began writing in 1990. These memos, eagerly anticipated by investors worldwide- including Warren Buffett- reflect Mark’s “second-level thinking” philosophy and his disciplined approach to understanding market psychology.
Despite managing billions of dollars and being considered one of the world’s foremost experts on credit investing and market cycles, Marks is known for his down-to-earth demeanor and willingness to acknowledge uncertainty. He often emphasizes that successful investing isn’t about knowing the future but about understanding risk and positioning yourself wisely in the present.
To me, what truly sets Marks apart is his dedication to education – he doesn’t share only his successes, but also his mistakes, believing that the best lessons often come from careful analysis of what went wrong.
His latest memo is out and was written on the exact day 25 years after he released his very first one. It was titled: “Bubbles.com.” That memo, he says, “had two things going for it: It was right, and it was right fast.”
His new memo is called Bubble Watch. In it, Marks describes “What Is a Bubble?” and shares some advice a mentor gave him years ago. Here’s a short quip:
What Is a Bubble?
Investment lingo comes and goes. My young Oaktree colleagues use a lot of terms these days for which I have to request translation. But “bubble” and “crash” have been in the financial lexicon for as long as I’ve been in the investment business, and I imagine they’ll remain there for generations to come. Today, the mainstream media uses them broadly, and people seem to consider them to be subject to objective definition. But for me, a bubble or crash is more a state of mind than a quantitative calculation.
In my view, a bubble not only reflects a rapid rise in stock prices, but it is a temporary mania characterized by- or, perhaps better, resulting from- the following:
- highly irrational exuberance (to borrow a term from former Federal Reserve Chair Alan Greenspan),
- outright adoration of the subject companies or assets, and a belief that they can’t miss, massive fear of being left behind if one fails to participate (“FOMO”), and
- resulting conviction that, for these stocks, “there’s no price too high.”
“No price too high” stands out to me in particular. When you can’t imagine any flaws in the argument and are terrified that your officemate/ golf partner/brother-in-law/competitor will own the asset in question and you won’t, it’s hard to conclude there’s a price at which you shouldn’t buy (As Charles Kindleberger and Robert Aliber observed in the fifth edition of Manias, Panics, and Crashes: A History of Financial Crises, “there is nothing so disturbing to one’s well-being and judgment as to see a friend get rich.”).
So, to discern a bubble, you can look at valuation parameters, but I’ve long believed a psychological diagnosis is more effective. Whenever I hear “there’s no price too high” or one of its variants – a more disciplined investor might say, “of course there’s a price that’s too high, but we’re not there yet” – I consider it a sure sign that a bubble is brewing.
Roughly fifty years ago, an elder gave me the gift of one of my favorite maxims. I’ve written about it several times in my memos, but in my opinion, I can’t do so often enough. It’s “the three stages of the bull market.”
The first stage usually comes on the heels of a market decline or crash that has left most investors licking their wounds and highly dispirited. At this point, only a few unusually insightful people are capable of imagining that there could be improvement ahead.
In the second stage, the economy, companies, and markets are doing well, and most people accept that improvement is actually taking place.
In the third stage, after a period in which the economic news has been great, companies have reported soaring earnings, and stocks have appreciated wildly, everyone concludes: that things can only get better forever.
In the ‘Howard Marks on Risk’ section below, I link you to an excellent video discussion on risk, and you’ll find my high-level bullet points on the relationship between risk and return… maybe the most important lesson for investors to understand and get right.
Before we jump into the body of this week’s post, I want to touch on this morning’s employment and the global challenges in the bond markets as interest rates are rising in the U.S., Europe, and Japan. Are the bond vigilantes beginning to rise from the dead? Maybe. At some point, I believe they will call the government’s hand. Think aggressive selling and a material jump higher in interest rates.
We should not ignore what the price tells us, so keep your eye on the dominant trend in the direction of interest rates and the direction of bond prices. The big elephant in the room is government debt—long-term late debt cycle problems. Think 70 to 100-year cycles, not 10-year cycles. The last one in the U.S. was in the late 1930s.
The employment data came out this morning, reporting that job numbers were much better than expected. The report is shaking the bond market and risk assets in general. At the time of this writing, the yield on the 10-year Treasury is up nearly 18 bps to 4.76%, and the stock market is down nearly 2% on the day. See the 10-year Treasury Yield chart below.
My friend Peter Boockvar bottom-lined the employment report in this morning’s Boock Report. Peter wrote, “as we know, these numbers are subject to big revisions multiple times. I don’t think anyone can say with confidence that the labor market in terms of net hiring is as strong as the headlines today say. I say this when we look at all the labor market information in totality. Just looking at the ISM services index this week, the employment component was at just 51.4, with only 9 of 18 industries surveyed adding people. Continuing Claims remain near 3-year highs. ADP said just 122k private sector jobs were added in December.
That all said, markets are only focused on today’s data and why yields are popping higher, and we get ever closer again to the 5% 10-year yield. In terms of the rate cuts that are now priced in. We’ve just about taken out any odds of a 2nd cut, and the first one is now fully priced in for November vs. June before today’s figure.”
-Peter Boockvar, The Boock Report
I share the following chart with Trade Signals subscribers each week without the “We are here” and “We’d be better off here” arrows. The concern here is the spike higher in interest rates. Remember that the Fed has cut interest rates by 100 bps since September. Since then, the yield on the 10-year Treasury has gone up more than 100 bps. This is very unusual. Also, note the excellent trend signal (red arrow bottom right) that signaled a trend reversal to higher interest rates. That signal was in October when the 10-year yield was approximately 3.75%. When interest rates go up, bonds decline in price. When mortgage rates go up, housing slows down. Higher interest rates are not good for the economy and markets in general. The rate spike on the right side of the chart just took us above the 4.74% high made last April. The next stop is 5%.
Source: StockCharts.com
Trillions in government debt are coming due and must be refinanced at higher rates. This is a gigantic problem. Simply put, we cannot foot the bill.
Grab your coffee and settle into your favorite chair. Also, in this week’s On My Radar, my friend Ben Hunt sent me a note announcing his advances in his language models about ‘narratives.” I’m a subscriber to Ben’s work. I asked him if I could share it with you, and he said yes (thank you, Ben). Important work. Let me know what you think!
On My Radar:
- Howard Marks on Risk
- Ben Hunt
- Trade Signals: January 8, 2024 Update
- Personal Note: The Orange Bowl
See Important Disclosures at the bottom of this page. Reminder: This is not a recommendation to buy or sell any security. My views may change at any time. The information is for discussion purposes only.
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Howard Marks on Risk Management
“It shouldn’t come as a surprise that the return on an investment is significantly a function of the price paid for it. For that reason, investors clearly shouldn’t be indifferent to today’s market valuation.”
– Howard Marks, Oaktree Capital
Marks is renowned for his understanding of market cycles. His key insight isn’t just that markets move in cycles but that human behavior makes these cycles inevitable. He famously says, “You can’t predict but you can prepare.” He emphasizes that knowing where we are in a cycle is more valuable than trying to predict where markets are heading.
The Psychology of Risk
Marks argues that risk isn’t volatility (as modern portfolio theory suggests), but rather the probability of permanent loss. More importantly, he emphasizes that risk is highest when perceived risk is lowest- typically when everyone feels optimistic, and prices are high (today, for example).
Contrarian Investing
Marks advocates being “contrarian when it pays to be contrarian.” This doesn’t mean blindly opposing the consensus but rather understanding when market psychology has pushed prices too far in either direction. He stresses that the best opportunities often arise when others are either overly fearful or excessively optimistic.
Marks is famous for saying, “You can’t take the same actions as everyone else and expect to outperform.” This leads to his view that superior investment results come from:
- Knowing the market’s inefficiencies
- Having a philosophy to take advantage of them
- Being positioned to do so
- Having the patience and discipline to stick to your approach
Perhaps what makes these insights valuable is how Marks communicates them- not as absolute truths but as frameworks for thinking. He consistently emphasizes that successful investing isn’t finding some magic formula but developing better judgment and understanding market psychology.
Bubble Watch Memo
You can read the full Bubble Watch memo here. It’s worth the read!
CNBC’s summed it up this way: “Howard Marks sees cautionary signs of a bubble, says investors shouldn’t ignore today’s high market valuation.”
If you missed last week’s On My Radar: What 2025 Starting Valuations Tell Us About Future Returns, you can find it here. It’s a short read, and there are several excellent charts. Bottom line: Same conclusion as Marks.
Howard Marks on Risk Management
I want to point you to Marks’s discussion on risk this week. You’ll find the link in the picture below. Following is my bullet point summary and a link to his YouTube discussion. Fast forward to the 23:18-minute mark and watch for two minutes.
Here’s the bullet point summary of Howard Marks’ key points on the relationship between risk and return (this is next level thinking):
- The traditional academic model (University of Chicago, 1962-1964) portrayed risk and return as having a simple linear relationship on a graph (chart on left below), with return on the vertical axis and risk on the horizontal axis, showing an upward slope.
- Many people misinterpret this model to mean two flawed things:
- Riskier assets automatically have higher returns.
- Taking more risk is the way to earn higher returns.
Marks says this interpretation is fundamentally wrong because if riskier assets reliably produced higher returns, they wouldn’t be risky.
- The correct interpretation of the upward-sloping line is that investments perceived as risky must offer higher potential returns to attract investors, but these returns are not guaranteed.
- Marks developed his improved version of the risk-return chart that better reflects reality:
- Instead of a simple line, he added bell-shaped probability distributions turned on their side. As you move right on the chart (increasing risk), two things happen:
- The expected return increases.
- The range of possible outcomes becomes wider, with worse potential downside outcomes.
Put your financial geek hat on and view the following two risk charts (my comments on Marks’s version of return vs risk are further below).
Source: Howard Marks, YouTube
Click on the picture to watch the full discussion:
Source: Howard Marks, YouTube
SB Here: There is roughly $65 trillion in U.S. public equities and $50 trillion in the S&P 500 stocks. Of the $50 trillion, approximately 40% is invested in just ten stocks. You know the names. Most investors are allocated 60% to stocks and 40% to bonds. Many are 50-50, 80-20, 90-10. Much depends on age and risk tolerance. They were taught this is the way to invest, and that is usually true during a long-term market cycle. But it is not true at extremes.
If you read OMR each week and conclude that I’m ‘so bearish,’ you likely have exposure to overvalued equities and low-yielding bond funds. If you’re allocated like most people in the popular 60-40 approach, and I were heavily positioned on the S&P 500 Index, I’d agree that my view is bearish. However, I see many opportunities with attractive return-to-risk profiles that make me quite bullish.
To me, Marks’s most incredible wisdom is that investment opportunities can be found with a lower-risk, higher-return profile. It is a question of where you point your gaze. And that’s my point.
I’ve included four green arrows, expanding on Marks’s excellent chart and suggesting that you can find investments with lower risk and better return profiles. Your job, and mine, is to find them. Frankly, that’s what makes investing great fun. Think about all investments you make in terms of return and risk and try to allocate only to the ones where your assessment puts them at the tip of the green arrows.
Source: Howard Marks, YouTube
Please note that the information provided is not recommended for buying or selling any security and is provided for discussion purposes only. Current viewpoints are subject to change.
Ben Hunt on Narrative
Dear Steve,
It’s been a while since I’ve published a long-form note, but it was really important to me that I got this one right. I think I did.
In 2024, we had a major breakthrough in the underlying technology we use to measure what we’ve been calling ‘narratives’, but are really a more fundamental class of embedded linguistic structures that we’re calling ‘semantic signatures’. That’s a terrible mouthful of ten-dollar words, so I wanted to write a note that explained what all that means and why it’s so important. Turns out I couldn’t do all that in one note, but I think this is a good start!
SB Here: Click on the Photo to read the full post.
I’ll be releasing and publicizing The Four Horsemen of the Great Ravine, Part 1 more broadly tomorrow, but I wanted to give Premium and Professional subscribers a first look today, both online and attached as a PDF. This is a note that I’d like to get in the hands of people who would appreciate it, so please feel free to forward this one to friends, family and colleagues.
In 2025, we’re going to be incorporating our new semantic IP in everything we do, including our Premium and Professional offerings. I’m more impatient than anyone to see these applications rolled out, but we’re committed to doing this right the first time – it’s too important not to. But while I’ll ask for your patience, I’d also ask for your attention – semantic technologies like this can truly change the world!
All the best,
Ben
Please note that the information provided is not recommended for buying or selling any security and is provided for discussion purposes only. Current viewpoints are subject to change.
Trade Signals: January 8, 2024 Update
Market Commentary:
I begin this week’s Trade Signals with a special edition feature of a good friend, Peter Boockvar, and his insight. Take us away, Peter…
“What were you doing in 1998?” by Peter Boockvar, January 8, 2024
I mentioned yesterday that the Japanese 5 yr JGB yield rose to the highest since 2009 and the 10 yr yield went to a near 14 yr high. Today, the 30 yr UK gilt yield rose by 3.6 bps to 5.22%, a level last seen in 1998. Yes, 1998. Yields elsewhere are rising too and the 10 yr US yield is now at 4.64%, the highest since last May. I remain bearish on duration and at some point if this yield rise continues, it’s going to matter for a variety of valuations in other things like highly valued equities and credit spreads. Higher for longer interest rates is real and what is most interesting is that it is happening just as many central banks are cutting short-term rates as we know.
UK 30 yr Gilt Yield
If you are a Trade Signals subscriber, click through to read the balance of the post.
Peter Boockvar is an independent economist and market strategist. The Boock Report is independently produced by Peter Boockvar. Peter Boockvar is also the Chief Investment Officer of Bleakley Financial Group, LLC a Registered Investment Adviser. The Boock Report and Bleakley Financial Group, LLC are separate entities. Content contained in The Boock Report newsletters should not be construed as investment advice offered by Bleakley Financial Group, LLC or Peter Boockvar. This market commentary is for informational purposes only and is not meant to constitute a recommendation of any particular investment, security, portfolio of securities, transaction or investment strategy. The views expressed in this commentary should not be taken as advice to buy, sell or hold any security. To the extent any of the content published as part of this commentary may be deemed to be investment advice, such information is impersonal and not tailored to the investment needs of any specific person. No chart, graph, or other figure provided should be used to determine which securities to buy or sell. Consult your advisor about what is best for you.
Opinions are Boockvar’s and are subject to change. Not a recommendation for you to buy or sell any security. For information purposes only. Consult your advisor.
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Personal Note: The Orange Bowl
“It’s not whether you get knocked down, it’s whether you get up.”
– Vince Lombardi
I’m writing you today from a sunny and unusually chilly southern Florida. I’m here for a conference and client meetings, including two golf afternoons. I played Trump International Golf Club on Tuesday with WallachBeth’s high-energy Andy M. The course is fun, challenging, and in perfect condition. Sushi dinner followed with guests and clients. I played the famous Blue Monster on Wednesday afternoon at Doral Golf Club in Miami. Pulling into the resort, I couldn’t help but think of my father. Dad was an avid golfer and attended many CPA conferences at Doral. And he’d always ship home some Joe’s stone crab claws after each trip. So good!
I extended my trip an extra day to attend last night’s Penn State vs Notre Dame game. Bucket list stuff, I convinced myself, and bucket list it was. The lead swung back and forth – the score was 24-24 with two minutes to play. Penn State had the ball around the Notre Dame 40-yard line. It was second down and seven, with enough time on the clock and three time-outs left to utilize; the quarterback moved to his right and tried to throw the ball across his body to a receiver running left across the middle. Sadly, for my Nittany Lions, the pass was intercepted, leading to a game-winning Notre Dame field goal with 8 seconds remaining on the clock. The final score was 27-24 ND. Congratulations Irish. I’m pulling for you in the championship game.
Orange Bowl – PSU vs ND January 9, 2025
I woke up this morning thinking about the quarterback—the courage it takes to put yourself in high-pressure moments. It takes something special. And then one moment he’d love to have back. I’d hire that kid in a second. He’ll need to shake that one off. We all get knocked down. Get back up, kid! Ever forward!
A giant thank you to Mike Freeman and his team at Skyway Capital. Mike and I share a love for sports, and I convinced him to bleed blue and white for the day.
I’m checking in happy. Mixing my favorite sports passions with business remains the game plan. Snowbird, Utah, is up next, where I’ll trade clubs for skis. Joining me will be my business partner, Jack G., and a client who is an expert in franchise businesses. The last time I skied with my friend, he was down the mountain and out of sight in seconds. I hope to keep up with him because I need to pick his brain on a new franchise venture we are getting behind—something we will present to clients soon. Atlanta follows at the end of the month for another due diligence visit. I’m often asked when I will retire, but the best guess is never.
Having a lot of fun and hope you are as well.
With kind regards,
Steve
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Stephen B. Blumenthal
Executive Chairman & CIO
CMG Capital Management Group, Inc.
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