Oaktree Capital Management's Howard Marks?an illustrious figure whose over 50 years of expertise in investment has left an important mark on the financial landscape - visited Bangkok recently and discussed a wide range of topics related to investment, inflation, China and AI, among other topics.
As the co-founder and co-chairman of Oaktree Capital Management, Marks has distinguished himself through proficiency in alternative investments and contrarian perspectives. During his visit to Bangkok, Marks spoke to financial professionals, leading with his famed memo on Sea Change.
Sea Change: Marks delved into the concept of "Sea Change," illustrating its real-world impact on the investment landscape and proposing adaptive strategies. He drew parallels between the changing financial environment, where securing loans and maintaining favorable capital structures are no longer as easy, and the broader notion of a "sea change." The term "Sea Change" encapsulates the transformation from an era of easy money, marked by declining or very low interest rates over the past 13 years, to a future where such conditions are unlikely to persist. However, Marks foresees a different landscape in the next decade, urging a fundamental re-think to adapt to a changed environment with rising interest rates.
Diversification Consideration: Unlike the bold approach advocated by Warren Buffett, who suggests concentrating all investments in one basket and monitoring it closely, Marks takes a more cautious stance. Marks highlighted the potential of an all-encompassing shift to high-yield bonds, a notably attractive basket in today's context. This aligns with the overarching theme of the Sea Change, emphasizing the importance of having a more significant portion in the credit basket going forward. From the challenging period of 2012 to 2020, marked by a low return environment, to the present shift where high-yield bonds have become more lucrative, Marks encourages a strategic reevaluation of investment approaches for healthier returns earned safely.
Inflation: When asked about how soon an inflation will pull back to normal, Marks provided a detailed analysis of the factors influencing inflation and the challenges in predicting its future trajectory. He suggests that inflation has turned out to be transitory, but not on the schedule predicted by the Federal Reserve, and also attributes recent inflation to the massive injection of liquidity and rate cuts during the post-pandemic crisis, combined with government relief checks. Additionally, the relief checks were distributed broadly, even to those not significantly affected by the pandemic which led to an accumulation of funds in the bank, causing elevated demand when spent post-pandemic.
Global economic shutdowns led to disruptions in the productive and transportation mechanisms, causing supply chain problems. The combination of heightened demand and supply chain issues are among factors that contributed to inflationary pressures.
Marks examines the Fed's Response, noting their initial expectation of transitory inflation. Subsequently, the Fed recognized its persistence and started raising interest rates at the end of 2021 to cool the economy. Marks believes inflation might have naturally subsided as excess money got spent and the supply chain returned to full operation.
When it comes to future of inflation, Marks cautions that this remains uncertain. While central banks have aimed for 2% inflation in recent years, achieving this target is challenging. Factors such as reduced globalization, increased bargaining power of unions, and advancements in AI impacting productivity play roles in shaping future inflation trends.
Marks identifies AI as a potential positive factor in reducing inflation, foreseeing increased productivity leading to more goods availability and easing price pressures.
Despite the inherent uncertainty, Marks predicts that inflation will likely be between two and three percent, citing the potential influence of AI and acknowledging the difficulty in accurately forecasting economic trends.
Investment opportunities in China: During the event, the discussion turned to China, prompting a question about the geopolitical and technological tensions between the U.S. and China and their impact on investment perspectives. Marks addressed the notion of China being deemed "uninvestable" by some, a label he is unafraid of given his career history of successfully investing in seemingly challenging areas. He highlighted that opportunities often arise where there is uncertainty and skepticism. Marks expressed his belief that China, despite being labeled as such, is indeed investable. He pointed to China's strong economic ambitions, the goal of transitioning millions from rural to urban life, and the need for sustained economic growth.
While acknowledging the risks, Marks emphasized that China's participation in the world trade community is crucial for their economic goals. The discussion revealed that Oaktree Capital has been investing in Chinese equities in 1998, and NPLs since 2015, with a cautious approach, demanding extra compensation for the uncertainties involved. Marks concluded that investments in China will continue, contingent on finding bargain conditions that provide a sufficient margin of safety compared to opportunities elsewhere.
US equity market: Marks shared his perspective on the surprising strength observed last year in the US equity market. Initially, there was a widespread belief that weak demand would lead to a recession, driven by rising interest rates from the Fed. However, contrary to expectations, the economy has remained robust. Marks acknowledged the mixed performance across different sectors but emphasized the absence of a recession.
Reflecting on the tug of war between market optimists and pessimists, Marks noted the substantial rally in the market over the past year. The optimism stemmed from the belief that inflation would subside, enabling the Fed to adopt a less hawkish stance and potentially lower interest rates to support the economy.
Despite the rise in U.S. stocks, Marks indicated that, historically, they are somewhat elevated but not excessively so. He pointed out that the current average P/E ratio is around 19 or 20, higher than the postwar average of 16 but not reaching the extreme levels seen in 2000 when the P/E ratio reached 32, leading to a significant market decline of over 60%. Marks concluded that while U.S. stocks are relatively high, they are not considered excessively overvalued at present.