PM Jar Exclusive Interview With Howard Marks – Part 5 of 5


Below is Part 5 of PM Jar’s interview with Howard Marks, the co-founder and chairman of Oaktree Capital Management, on portfolio management. Part 5: Creating Your Own Art

“You can glean insights from many places and then assemble them into your own formula. You can’t copy somebody else. Well you can – but that’s not very creative.”

PM Jar: Who are your investment intellectual influences?

Marks: Snippets here and there: John Kenneth Galbraith, Charlie Ellis, Nassim Taleb, Mike Milken, Ben Graham, and Warren Buffett more recently. You glean insights from many places and then assemble them into your own formula. You can’t copy somebody else. Well you can – but that’s not very creative. I’ve gleaned snippets from all of those and assembled them into my own philosophy.

PM Jar: Your approach to achieving return asymmetry has been to lose less in down markets, but you’re not going to outperform in up markets. Is that approach Oaktree-specific?      

Marks: It’s inherent in our strategy. It’s inherent in our personalities. It’s inherent in our origins as debt investors. In Security Analysis, Graham & Dodd defined bond investing as a “negative art.” You add to your portfolio results not by what you include, but by what you exclude.

For example, let’s say all high yield bonds pay 6%. If they all pay 6%, then it doesn’t matter which of the ones that pay you buy, since all the ones that pay will give you the same return. Let’s assume 90% will pay, 10% will not pay. On the ones that don’t pay, you’ll lose money. Since all the bonds that pay will have the same return, the critical thing is to exclude the ones that don’t pay.

Obviously, what I’m describing is an extreme formulation. But in general, if you’re a bond investor, there aren’t different degrees of success, only different degrees of failure. The main way to increment your portfolio performance returns (versus your competition and the benchmark) is by avoiding the losers. That’s us. Our great contribution comes through not doing badly in bad times.

But that would not be an effective business model for a venture capitalist. A venture capitalist will be successful if out of every ten investments, seven turn out to be worthless, two break even, and one is Google. So they couldn’t possibly use our approach. We couldn’t possibly be venture capitalists, and they couldn’t possibly be bond investors.

My favorite fortune cookie says, “The cautious seldom err or write great poetry.” We know we’re not going to write that great poetry. We’re not going to have the 20x winner. We are most effective by avoiding mistakes.

Our model, our securities, and our strategies all go together. You have to do the thing that fits you. Different strokes for different folks. There are many ways to skin the cat. Investing is an art form. Take the hundred greatest painters, their paintings look nothing alike. The definition of great is not uniform.