Wednesday 5 December 2012

Excellent quote from Howard Marks (Chairman, Oaktree Capital)

While this blog is in beta phase, I am essentially talking to myself. Now I know what it feels like to be my girlfriend! I read a lot. Sometimes reading is a bit like gold exploration; often not much comes of it, but every now and again I come across an 'a-ha!' moment or as we Australians say 'eureka!' Last-night I had one such moment when reading client memos from the Chairman of Oaktree Capital; Howard Marks. Oaktree typically invests in distressed debt and is in many ways a true Benjamin Graham or cigar-butt investor, buying into situations that other investors don't want or can't be bothered with. The quote I came across was from the 2012 memo titled Déjà Vu All Over Again:

"If I were asked to name just one way to figure out whether something is a bargain or not, it would be through assessing how much optimism is incorporated in its price" 

Profound. In Australia, we have had several such stories in recent years with one of the most notable being Telstra Ltd (TLS). TLS's shares went through an awful time thanks to a breakdown in its relationship with the Federal government, a major shareholder (Future Fund) selling down its stake and outright fear the business would not survive in a post NBN world. NBN is the government's high speed broadband network that will give most Australian's exceptionally fast internet and to cut a long story short will ultimately remove part of TLS's monopoly over telephony. At more than one point there was absolutely no optimism in the share price. None whatsoever. I had the good sense or fortune to buy TLS at just such a time, but truth be told there have been other similar situations that I have not participated in because I also had no optimism. 

However, it is important not to be contrarian just for the sake of it: sometimes, in fact often, it is 100% correct to be fearful when everyone else is fearful. There are many situations when a stock shouldn't have much optimism factored in. So, the trick is to judge the relative difference between optimism and the reality of the situation. The optimal point is very low optimism combined with a company that has genuine value: be that cash, property or stable cashflows. That's the type of trade I am looking for.