Howard Marks is best known for being the co-founder of Oaktree Capital Management. He is also revered in the investment community for the memo’s he has published dating back to 1990. For 30+ years he has published his thoughts, insights, and perspectives on investing to the public. In his book, The Most Important Thing, he pulls from previous memos he has published detailing the “most important thing” in investing. The catch to the book is there is no “one most important thing” in investing, there are too many to count.
My favorite chapter of the book is chapter 10 – “The Most Important Thing Is…. Combating Negative Influences.” In this chapter, he details seven important emotions that can undermine an investor. No matter what year it is or where we are in an economic cycle, the following 7 emotions/ideas are a good reality check to make sure you are making the correct investment decisions.
1. Greed
There is nothing wrong with trying to make money by investing. Wealth generation is why people invest. With that being said, it is concerning when someone’s want for money throws common sense and prudence out the window just to try to get an extra percent or two, without understanding the potential downside they are exposed from the trade.
“The combination of greed and optimism repeatedly leads people to pursue strategies they hope will produce high returns without high risk; pay elevated prices for securities that are in vogue, and hold things after they have become highly-priced in the hope there’s still some appreciation left. Afterward, hindsight shows everyone what went wrong: that expectations were unrealistic and risks were ignored.”
Hindsight First, Please (Or, What Were They Thinking?). October 17, 2005
2. Fear
On the other side of the coin from greed is fear. Just like greed, fear is excess behavior in the other direction. Fear prevents investors from taking the action they should because of the environment around them. Fear is when people are selling when CNBC sounds the alarms and runs their “Bear Market” special at night. How many times have those been run just for the market to push to an all time high in the future?
3. Willing Suspension of Disbelief
This is when people “dismiss logic, history, and time-honored norms.” This is the core of every bubble and the eventual crash. These are the investments that seem too good to be true. It is hard for me not to see the correlation between the following excerpt from one of his memo and the recent boom in crypto’s/NFT’s.
“When a market, an individual or an investment technique produces impressive returns for a while, it generally attracts excessive (and unquestioning) devotion. I call this solution-du-jour the ‘silver bullet.’
Investors are always looking for it. Call it the Holy Grail or the free lunch, but everyone wants a ticket to riches without risk. Few people question whether it can exist, or why it should be available to them…
But the silver bullet doesn’t exist. No strategy can produce high rates of return without risk. And nobody has all the answers; we’re all just human. Markets are highly dynamic and, among other things, they function over time to take away the opportunity for unusual profits. Unskeptical belief that the silver bullet is at hand eventually leads to capital punishment.”
The Realist’s Creed. May 31, 2002
Investing in crypto’s and NFT’s have become the “silver bullet.” There has to be risks to the +1,000% return on some of these investments. Marks goes on further in his book talking about silver bullets writing, “What makes for belief in silver bullets? First, there’s usually a germ of truth. It’s spun into an intelligent-sounding theory, and adherents get on their soapboxes to convince others. Then it produces profits for a while, whether because there’s merit in it or just because buying on the part of new converts lifts the price of the subject asset. Eventually, the appearance that (a) there’s a path to sure wealth and (b) it’s working turns it into a mania.”
Silver bullets usually start out as a good trade, but there are no silver bullets. It was a good trade that had an extended run making it a silver bullet by the masses. There is no free lunch. Eventually, an asset’s price is elevated so far that even though most staunch believers take their money off the table causing the bubble to burst.
4. Tendency to Conform to the View of the Herd
I’ve succumbed to this. We all have. Blindy buying a stock without the proper research to truly understand what a business does and how it operates just because others are buying. We learn from these mistakes and do our best not to repeat them in the future.
Marks puts in excellently by writing, “Time and time again, the combination of pressure to conform and the desire to get rich causes people to drop their independence and skepticism, overcome their innate risk aversion and believe things that don’t make sense.” We should all try to double-check ourselves before hitting the buy button for the rationale of why we are purchasing.
5. Envy
Envy is greed driving by looking at others. Seeing the profits of others can drive an investor to make imprudent decisions. It can cause them to “conform to the view of the herd” and cause “willing suspension of disbelief.” This is one of the most harmful aspects of human nature. Rarely situations are better when driven by envy.
I know I’ve fallen victim to seeing the returns of other investors and thinking “why isn’t that me?” It’s a natural thought. It’s happened in the past and will happen in the future, I’m a human. I try my best for those thoughts not to take over my decision-making process.
6. Ego
Tied closely with envy, the ego runs rampant in the investment community. Who has the most assets under management and who has the best performance? Investing has the blessing and curse that it is easy to measure performance. Take a look at your starting and ending balance and see who did the best. It’s black and white, no room for argument when you are looking at year-over-year returns.
7. Capitulation
Capitulation is when an investor holds on to their beliefs for as long as they can but then jumps ship when economic and psychological pressures become too strong. “The tendency toward self-doubt combines with news of other people’s success to form a powerful force that makes investors do the wrong thing, and it gains additional strength as these trends go on longer.”
We’ve all been there. Our investment isn’t performing as well as others. There is a time where we might be wrong, but other times we are short-sided as investors. Some of my favorite investing stats show how often winning stocks are down from their all-time high. The tweet from Brina Feroldi describes this perfectly.
Knowing when you are wrong vs when you haven’t waited long enough is the sign of a seasoned investor. This is something I’m actively working towards and will hopefully continue to improve as I get more years of investing under my belt.
Peace and Love.