The Most Important Thing

Investing consists of exactly one thing: dealing with the future.

-Howard Marks

Several years ago I was introduced to the writings of Howard Marks and have been a loyal follower ever since. The reflections he shares in his memos, while occasionally written from the perspective of a value investor, offer insights and reasoning that are applicable to many different fields of investing and life. I consider his memos to be essential reading, and The Most Important Thing acts as an excellent companion piece with additional thoughts and commentary. Below I’ve highlighted a few topics that I thought were worth a discussion

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Minsky’s Model of Mania

The word bubble, in the context of financial markets, gets thrown around a lot these days. Some of this is understandable considering the global economy was, and still is, recovering from the incredible recession of 2008-2009. Our senses have been heightened to watch out for what may be coming next. Regardless, the excessive usage begs the question: What defines a true bubble?

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The Five Laws of Gold

The Richest Man In Babylon was originally a collection of parables penned by George Clason in 1926 that focused on the judicious handling of money. Ninety years later these stories are still very applicable to our modern financial lives, with many of the lessons having been repeated numerous times in various forums. For all the time spent analyzing portfolio strategies and understanding asset class behavior there are some foundational concepts that must be in place to ensure personal financial success. Sound advice seldom, if ever, changes.

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Quantitative Value

The idea of buying stocks that are cheap and holding on as they appreciate in value over time is well aligned with the simple heuristic “buy low and sell high.” This central concept has created, for myself, a natural and intuitive pull towards value investing. The problem is that not all “cheap” stocks eventually go on to appreciate in value. Some are cheap for a reason–they have poor prospects and will likely end up in Wall Street’s corporate boneyard.

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Deconstructing Peter Lynch

Actively managed mutual funds have earned their place among the most unloved of paper assets, and rightly so. The high fees combined with persistent under-performance are a serious drag on growing one’s capital. Peter Lynch, famed manager of Fidelity’s Magellan Fund briefly touched on the failure of active managers in his book Beating the Street and even went so far as to suggest allocations to index funds as part of one’s portfolio. This was somewhat prescient as the book was written in the early 1990s, well before the passive investment fad was in high gear. But remember, Lynch himself was an active fund manager. Based on return alone he’s considered among the greatest ever. From May of 1977 through May of 1990 Lynch captained Magellan to an annualized return of 29.06% compared to just 15.52% for the S&P 500.

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Linchpin

Over the past few years I’ve found myself having a recurring conversation with friends, colleagues and family members. Despite indications that the economy is healthy and moving along, it sure doesn’t feel that way, and it’s tough to identify exactly why. Consider the following US economic data from the end of 1999 through 2014

1999 2014 Annualized
Change
Median Household Income $57,843 $53,657 -0.5%
Real After Tax Corp. Profits $523.1B (Q4) $1,700B (Q4) 6.2%
Real Gross Domestic Product $12,323.3B (Q4) $16,151.4B (Q4) 2.0%
CPI (Inflation) 168.3 (Dec) 234.812 (Dec) 2.4%
Effective Federal Funds Rate 5.30% (Dec) 0.12% (Dec)
Source: Federal Reserve Economic Data (See Below)

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The Black Swan

I consider myself a child of the Global Financial Crisis (a.k.a. The Great Recession). As I wrote about in my introduction I started my career in early 2008, just as the US housing market was unwinding and shortly before financial markets imploded. To those not familiar with financial markets this sort of event would appear to be a rarity–a one-in-a-billion (I’m embellishing) sort of event. Looking back at financial history, however, paints a very different picture. Severe market movements, both positive and negative, have occurred with greater frequency than I (or most others) realize.

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