“The best we can do is turn cautious when the situation becomes precarious.  We never know for sure when, or even whether, “precarious” is going to turn into “collapse”.” -Howard Marks, Oaktree Capital

 

As long-time clients know, Howard Marks is one of my investing heroes.  Mr. Marks is truly one of the great investors in history, and his incredibly thoughtful memos are a must-read when published a few times per year.  His latest, published in late September, is where I took the above quote.  As you have heard me say often, no one rings a bell and lets us know when the absolute tops and bottom of financial markets are reached; it sure would make life easier if they did.  Thus, the best we can do is to look at our indicators and models to see if the current situation has become precarious.  Well, you may have noticed in late August, we decreased our risk exposure in all managed accounts.  In other words, we increased the level of cash and reduced the value at risk in managed portfolios.  Our models and indicators started signaling caution, so we took the necessary steps to reduce risk exposure.  We can never know for certain whether this is just a normal correction, like we had earlier this year, or the start of something more substantial.  Regardless of the eventual outcome of the precarious position, discipline remains paramount.

 

Recently, I was reacquainted with a story, written by the late Richard Russell.  Mr. Russell was well-known in the investment industry for his ‘Dow Theory Letters’.  The story, titled “Rich Man, Poor Man”, is such a great lesson for all of us that I am going to put the story here: 

 

“In the investment world, wealthy investors have one major advantage over the little guy, the stock market amateur, and the neophyte speculator. The advantage wealthy investors possess is they DON'T NEED THE MARKETS. I can't begin to tell you what a huge difference that makes, both in one's mental attitude and in the actual handling of one's account. The wealthy investor doesn't need the market, because he already has all the income he needs. He has money coming in via bonds, T-bills, money market funds, real estate, and stocks. In other words, the wealthy investor never feels pressured to 'make money' in the market.

 

The wealthy investor tends to be an expert on values. When bonds are cheap, and bond yields are irresistibly high, he buys bonds. When stocks are on the bargain table and stock yields are attractive, he buys stocks. When real estate is a great value, he buys real estate. When great art or fine jewelry is on the 'giveaway table,' he buys them. In other words, the wealthy investor puts his money where the values are. And if there are no outstanding values, the wealthy investor waits. He can afford to wait. He has money coming in daily, weekly, monthly. In other words, he doesn't need the market. He knows what he is looking for, and he doesn't mind waiting weeks, months or years (they call it patience).

 

What about the little guy? This fellow always feels pressured to 'make money,' to 'force the market to do something for him.' When this fellow isn't buying stocks at 3% yields, he's off to Vegas or Atlantic City trying to win at craps or he's spending ten bucks a week on lottery tickets or he's 'investing' in some crackpot real estate scheme with an outfit that his bowling buddy told him about. And because the little guy is forcing the market to do something for him, he's a consistent and constant loser. The little guy doesn't understand values, so he always overpays. He loves to gamble, so he always has the odds against him. He doesn't understand compounding and he doesn't understand money. He's the typical American, and he's perpetually in debt.

 

The little guy is in hock, and he's always sweating, sweating to make payments on his house, his refrigerator, his car or his lawnmower. He's impatient, and he constantly feels pressured. He tells himself he has to make money fast. And he dreams of 'big bucks'. In the end, the little guy wastes his money on the market, he loses his money on gambling, and he dribbles it away on senseless schemes. In brief, this 'money-nerd' spends his life running up the down-escalator. Now here's the ironic part of it. If, from the beginning, the little guy had adopted a strict policy of never spending more than his income, if he had taken that extra income and compounded it in safe, income-producing securities - in due time he'd have money coming in daily, weekly, and monthly - just like the rich guy. Then in due time, he'd start acting and thinking like the rich guy. In short, the little guy would become a financial winner instead of a loser.”

  

Please don't hesitate to reach out with any questions.