Oaktree Capital chairman Howard Marks. Photo: Glen McCurtayne
One of the world's most revered investors, Howard Marks, has challenged Australia's superannuation industry to rethink its love affair with shares and warned that a "day of reckoning" for stocks is inevitable.
Mr Marks, the chairman of Oaktree Capital, which manages $US86 billion, acknowledged Australia's heavy allocation to equities has been lucrative given the resilient economy and sharemarket.
But it "may not work forever", he warned. "The mere fact an aggressive strategy wins in a winning period doesn't prove it is the right strategy for all periods," he said.
"That's something you have to think about," Mr Marks said in an interview during a visit to Sydney to meet clients, including Cbus, Telstra Super and Unisuper.
Oaktree Capital rose to prominence by investing in high-yield bonds and distressed-debt, including Nine Entertainment Co.
This week's federal budget revealed a growing paranoia about the costs of supporting an ageing population, and the financial system inquiry led by David Murray, the former head of the Future Fund – another client of Oaktree – is examining if more superannuation savings should be directed to corporate bonds or infrastructure projects.
According to the OECD, around 50 per cent of Australian super fund assets are invested in shares, Around 10 per cent is in fixed income, including bonds. Most other countries have much higher allocations to bonds, which are less risky, allowing more capital to be preserved in times of market upheaval.
Mr Marks said the rise of shares "can't go on forever, and some day there is a day of reckoning. That's why we have crises – they serve to remind people that risk awareness and risk limitation are important virtues.
"If the tide hasn't gone out for many years, people may not understand the need for risk control and may engage in risky behaviour – which will bite them when a correction occurs."
'Bond prices have to fall'
The observation followed a dramatic 24 hours on global bond markets as prices rallied and US Treasury yields fell to a six-month low. The bond surge has puzzled some investors, because the US Federal Reserve's withdrawal of quantitative easing should force yields higher and bond prices down.
But Mr Marks said market interest rate rises are not likely to be dramatic.
"Bond prices have to fall, but the key in my view is that they don't have to fall that much, because the change in rates will not be that great," he said.
"For rates to go much higher, you either have to have a strong [US] economy or significant inflation or both. I don't see it now, and I don't see it in the foreseeable future – but you never know."
The caveat is important.
In his regulator memorandums to Oaktree clients, which he has been writing for 25 years, Mr Marks reveals a humility which contrasts with the stereotype of Wall Street deal-making hubris and bravado.
Successful investors should acknowledge what they don't know, be willing to be wrong, and recognise luck plays a big part in everything, he says.
An 11-page memo published in January and titled "Getting lucky" received the biggest response yet of any of his market notes, which are received by around 7000 investors and circulated much more widely, Mr Marks says.
Paying homage to The New Yorker writer Malcolm Gladwell's book Outliers, Mr Marks acknowledged his career had benefited from numerous lucky breaks, including arriving at the University of Chicago in 1967, just as the foundations of modern investment theory – including the efficient market hypothesis and the random walk – were being taught. When he began working in the high-yield bond industry in 1978, it was only a $2 billion investment universe.
"A lot of the luck in my career arose because I came upon markets when they were starting up – the high-yield bond market, distressed debt market and some of the international markets. It's a Malcolm Gladwell-type demographic luck to be in the right place at the right time."
But as Oaktree entered these nascent markets over the years, Mr Marks discovered a lack of information, understanding and competition provided his funds with opportunities to make favourable returns with less-than-commensurate risk. Conditions are much more challenging for modern-day investors, he says, given a proliferation of technology and knowledge has resulted in far fewer inefficient markets to exploit.
"Most investors are embracing risky market sectors, and that has made it harder to find a bargain. In general, I think it will be harder to earn superior risk-adjusted returns in the future, and the margin of superiority will be smaller."
'Deriving the significance of data'
With a deluge of information sloshing around the financial markets each day, Mr Marks suggests savvy investors must extract themselves from the 24-hour news cycle and not conflate the gathering of data with the gaining of wisdom. "It is very important to recognise that data is not information, and information is not knowledge, and knowledge is not wisdom," he says.
"Wisdom consists of deriving the significance of data. You have to step back and say, 'My goal is not to have as much data as I can, but to figure out which data is important and then get it, and then go away to the mountain top and figure out what it all means.' I would purse wisdom, not data."
Oaktree was one of the key protagonists in the battle for control of Nine Entertainment in 2012 (it and Apollo Global Management maintain a combined 36 per cent of the broadcaster after forcing an agreement to win control by converting their debt to equity in a landmark deal. The shares are escrowed until Nine's full-year results in August).
Oaktree has a global policy not to discuss individual investments and Mr Marks makes it clear he is not an expert on the media.
But Mr Marks recognises "the media is going through an incredible period of change and I don't think the changes are fully cooked yet; I don't think anybody really knows where it is going to settle down".
He also seems to have little time for the proliferation of reality television, while recognising the commercial reality that broadcasters need to deliver ratings. "You watch these things on TV, these interactive shows – I think these are largely time-wasters. But a lot of people want that content in their life. The media have to work out if it is something people will pay for and reward the media company for providing that content."
Like former Nine owner Kerry Packer, Mr Marks is also a big believer in the power of sport – several of his recent memos examine what business people can learn from sport. Both are "competitive, active, achievement-orientated and rewarding", he says. "They both involve a fair bit of luck. There is a lot of randomness in sport – but not as much as in investing."
"Randomness is the contrary of skill. The more skill is applicable, the less of a role randomness plays, and there is more skill in athletics than in professional investing."
Yet unlike several players at the upper echelons of the media industry – not to mention the investment banking profession – Mr Marks emphasises the importance of civility in business dealings. "I think you can go further in life by being a nice person than being a tough person. We [Oaktree] try to have a reputation in the finance community as being good people you can work with, people who don't necessarily take every penny – people who might leave something on the table for the other guy – and I think that is salutary. I don't think it is desirable to fulfil the Masters of the Universe image."
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