How Oaktree's Howard Marks Spots a Market Bubble
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Hello and welcome to another episode of the Odd Lots podcast. I'm Traci Alloway. And I'm Joe Weisenthal. So Joe, we recently recorded an episode with Kevin Muir where we were talking about concentration risk in stock indices and I guess historical analogies with the dot-com bubble of the 2000s. And I know that this is one of your favorite subjects. I think I said it was like your own personal catnip. That's right. And so I thought...

You know what? I did not get Joe a Christmas present this year. In fact, I don't think I've ever gotten you a Christmas present. But wouldn't it be nice if I got him a whole episode where we're talking to one of the world's most famous investors who correctly called the internet bubble?

Let's do it. Let's jump right into it. No more intro. I'm so thrilled about this conversation. Let's just get it started. All right. I will also admit this is a belated Christmas present to myself as well. So we are going to be speaking with Howard Marks. He is, of course, the co-founder and co-chair of Oak Tree Capital Management. He's

He's famously a credit investor, but he did call, as I said, the dot-com bubble correctly. So, Howard, thank you so much for coming on the show. It's a pleasure to be with you, Tracy, and also Joe. Maybe just to begin with, give us some context around what the early 2000s, late 1990s were like for you. What were you doing and what were you observing at that time?

Well, the 1990s were a slow time for credit investors.

We're kind of opportunistic and bargain hunters, and bargains come from dislocations and people feeling urgency to get out of positions. And the 90s were generally a placid period, except for around 98, we had a devaluation of the Russian ruble and a Southeast Asian crisis and

We had the meltdown of a highly levered hedge fund called Long-Term Capital Management. But those were all kind of idiosyncratic events, not

macro and not broad-based. Other than that, the investment environment was placid. Importantly, it was the best decade in history, I think, for stocks. And the S&P 500 rose an average of 20% a year for 10 years, which is an astronomical accomplishment. If you rise 20% a year for 10 years, I would guess that

Something goes up roughly eight times in 10 years, which is incredible. And of course, this was all powered by the what we call the TMT bubble, tech, media and telecom bubble. Some people call it the Internet bubble, which prevailed in 98, 99 and into 2000. So it was hot times.

Not for credit investors, hot times for equity investors. You know, you recently wrote a memo that called back to a memo that you had written basically exactly 25 years ago. So right at the start of 2000, of course, the dot-com bubble or the TMT bubble peaked. I think it was in March of that year. You got the timing right.

And that's sort of extraordinary because there were a lot of people probably starting in 1998 and 1999, maybe even earlier, like this is ridiculous. There's all these companies. They literally don't have a penny in earnings or perhaps don't even have a penny in revenue. They just have the name dot com in their name. They IPO at crazy prices.

What is the experience like? I mean, that was very fortunate timing on your part, but there were a lot of people who, you know, were famously correct and early and they had clients abandoned them and so forth. And they were thought it was like, oh, you don't understand the new paradigm, et cetera. What's that like in the years before that, as it feels like the market is becoming increasingly untethered from any sort of reality and yet there's no payoff in being correct?

Right. Well, there's so much to say in response to your question. You know, I use a lot of quotes and adages when I write because, you know, other people have said things so much better than we can. And one of the first adages I learned in the early 70s was that being too far ahead of your time is indistinguishable from being wrong.

So, yeah, it's painful to say something and predict something and then have to wait years and years for it to come true. Alan Greenspan famously said, I think it was in 96, that we're beginning to see signs of irrational exuberance in the stock market. And of course, the market went straight up for the next four years. And, you know, there are people who pronounced that we were in a stock market bubble, I think,

I can think of one in June of 2020. And here we are almost five years later. And of course, we did stall out in 22. But if you went out in 20 and weren't smart enough to come back in in 22, you've missed a big ride. So I think, well, you know, one thing I argue strenuously, Joe, is that in the investment business, there's no place for certainty.

And Mark Twain said, it ain't what you don't know that gets you into trouble. It's what you know for certain that just ain't true. And so you can have opinions, but you should never be certain that you're right. And you should never arrange your financial affairs

on the assumption that your forecast is right, because it can be right intellectually or factually or rationally, but just take a long time to materialize. And if you can't survive between when you take your position and when your expectation comes true, then obviously it's not something you should do.

And one of my colleagues once wrote a note to his clients. He says, if you name a price, don't name a date. And if you name a date, don't name a price. That's good advice for journalists, too. But anybody who names a price and a date is probably going to get carried out of it sooner or later. So what was it like then when you hit the publish button on the note? I think it was called bubble.com and you published it.

I think it was right at the start of January 1st. What was it? 2000. It was January 2nd, 2000. It was the first business day of 2000. And then stocks peaked later that month, right? Yeah. No, I think a little later that year. Joe said it was in March. I don't remember exactly. I thought it was a little later than that. But, you know, I'd started writing these memos in 1990. I'd been writing for 10 years. Of course, in those days, they went out in the mail and...

to a limited audience, just my clients. And, you know, for 10 years, I never had a response. And then I spent the fall of 99 working on this memo, bubble.com, and was ready to push the button. I guess I polished it over Christmas probably and sent it out the first day. And, you know, let me just clarify one thing for the record and for the benefit of the listeners. If you read that memo, it does not predict anything.

the bubble. And it does not say, you know, the market's going to collapse. All it did is describe the current conditions. And that's two different things. Now, I don't make predictions. I only describe current conditions.

and my motto is we never know where we're going but we sure as hell ought to know where we are and i believe you know this is a little bit of a matter of semantics i believe that where we are if we properly assess it informs where we're going but i think people who waste their time figuring out making predictions which i'm strongly against are wasting their time

I think that describing current conditions can be done accurately and obviously has an impact on what the future holds. So as I say, read the memo. I think it reads well in retrospect, but don't expect to find a place where I say, get out of the market or the market's going to collapse or we're in a bubble that's going to pop. What I say there is, I just want to call your attention to all these things

forms of excessive or overheated behavior and let you know what I think is going on. That's all it says. So in the art of just identifying where we are, and when we're talking about financial markets, obviously we can use all kinds of ratios, et cetera, price to earnings, price to forward earnings, valuations, a million different ratios that you can come up with.

And then, you know, there are sort of cultural markers. And I remember in summer 99, I would get lunch every day at the same pizza shop and the pizza shop owner had CNBC on and he was trading tech stocks at the time. And these other sort of

indicators that people are just excited about the prospect of making money and making money fast. And when you do an assessment and you say, okay, here's where we are, how much do you sort of hew strictly to the math, so to speak, and how do you systematically incorporate other indicators of exuberance, which perhaps can't always be captured on a Bloomberg terminal, for example?

No, look, I think you're absolutely on the right track, Joe. You read the memo. My observations are, I would say, 99% what you called cultural markers, which I think is great, or behavioral indicators, and 1% math. And to me, it's the behavior that is so indicative. And in my first book, which is called The Most Important Thing, I have something in there

called The Poor Man's Guide to Market Assessment. And it really takes mostly cultural markers and puts them in two columns, left and right. And whichever column is prevailing, it tells you something. And for example, I say in there that if people like me are being invited to cocktail parties and are the center of attention,

and so forth, then it probably means that investing has been doing well and everybody's optimistic about it. And it indicates that maybe things are too hot. And if people like me are not invited or shunted off to the corner, maybe the markets are too cold, too cheap, and it's time to strike. So I think that these behavioral indicators are extremely important. And I wrote a memo in

I think it was the summer of '23 called "Taking the Temperature." And I describe what I do in this regard as taking the temperature of the market to figure out if it's hot or cold. And when I was working on my second book, which is called "Mastering the Market Cycle," and I was speaking with my son, Andrew, who's a venture capitalist, I said to him, "You know, I think my forecast over the course of my career have been about right." And he says to me, "Yeah, Dad, that's because you did it five times in 50 years."

Five times in 50 years, I found the market is just so crazy high or crazy low that you could make a logical case that was either overextended or too cheap. And you could do so with a high degree of confidence.

And I recount the five times I did it and why. But if I had tried to do it 500 times or 5,000 times in my career, I mean, I've probably been in the investment business for about almost 20,000 days. If I tried to do it 5,000 times every fourth day, I'd probably be 50-50 at best. So to me, it's noting extremes of behavior.

And that's what I was doing with Bubble.com, and that's what I did in the five other observations. 89% of business leaders say AI is a top priority, according to research by Boston Consulting Group.

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So you've emphasized that you're describing current conditions, not necessarily making predictions. I'm curious how you translate those, you know, let's say accurate assessments of the current environment into actionable investments. Or I guess another way of asking this is, you know, if you're looking at stocks, you

And thinking they're overvalued or there might be signs of overvaluation, how does that translate into the credit space? Good question, Tracy. To me, the main axis along which one establishes one's behavior as an investor is the axis that runs from aggressive to defensive. Each of us should figure out based on our

personal conditions, our wealth, our income, our needs, our dependence, our age, plans, et cetera, and also ability to withstand fluctuations. Each of us should figure out what our normal risk posture should be. Normally, should I be a low-risk person, normal, or a high-risk person? And then you should build a portfolio that responds to that

decision, but then you might try to vary your position from time to time as conditions in the markets change. And I believe that, as I said, that the main axis along which one should think about varying one's position is between offense and defense.

So, you know, you establish a position, which is your normal position, which has a certain amount of aggressiveness, a certain amount of defensiveness. But then are there times when you should become more aggressive and are there times when you should become more defensive? And that's what I did on those five occasions.

And I'll give you an exam. And by the way, these are all described in Taking the Temperature. And I've mentioned or you've mentioned the memos from time to time. And I just want to note for the listeners that they're all available at oaktreedcapital.com under the heading of Insights. There's 35 years worth of memos there, about 200. And there's no price of admission. They're all free. And anybody who wants to sign up for a subscription can do so.

But, you know, in taking the temperature, I described the way in '05, '06, I was getting really leery of the markets. What was my indicator? My indicator, or as Joe would say, my cultural marker, my indicator was that I'm reading in the paper about new deals that are getting done. And the deals were crazy deals.

deals that, in my opinion, should not get done. They were too good for the issuer and, in my opinion, too bad for the investor. And the deals were getting done anyway. And one of the investors' main jobs is to decline to engage in stupid deals. And if somebody comes and says, I'm going to sell you a gold mine. And if you can put up a million dollars, you're going to make $100,000 a month.

for the rest of your life. Your job is to say, no, that's too good to be true. Or if I say, I think there's a gold mine in Australia, and if you put up a million dollars, it'll probably pay you a million dollars a year the rest of your life if we find gold. You should say, no, that sounds too risky. I just think that we're unlikely to find gold. But if you see those deals getting done, it tells you that investors are not applying

vigilance. They're not doing their job of resisting deals that are too risky or structured, not in their favor. And in 05, 06, I was seeing these deals done that made absolutely no sense.

And I describe myself as wearing out the carpet between my office and my partner, Bruce Karsh. And every day I would go and say, look at this piece of crap that got issued yesterday. A deal like this shouldn't get done. And if a deal like this can get done, there's something wrong. That was 99% of my observation at that time, that investors were not being suitably skeptical, cautious, demanding, and risk averse.

And, you know, Buffett has a great saying, which feeds right into this. He says, the less prudence with which others conduct their affairs, the greater the prudence with which we must conduct our own affairs. And when others are wacky, we should head to the sidelines. That was the foundation of that conclusion. Now.

What happened was it turned out we were in a housing bubble, and the housing bubble gave rise to a mortgage bubble. And the mortgages, the subprime mortgages issued to people who could not or would not document their income or their assets were packaged into mortgage-backed securities. And the people who bought the riskier tranches of those securities lost all their money, which the rating agencies rated very highly because they didn't understand it either.

and this was going on en masse. It was the collapse of the mortgage-backed securities, of which the banks had in many cases retained the risky portions when they structured them. It was the collapse that took Bear Stearns and Merrill Lynch and Lehman Brothers and other AIG, et cetera, out of business as independent entities. I hasten to point out, I didn't know anything about

mortgage-backed securities. I didn't understand subprime. I didn't know what was going on. It was going on in a distant corner of the investment world, which I was not in on. I just knew that the climate was too permissive and the mortgage-backed developments were a manifestation of that. But your question, I always try to come back to the question. Your question was, what do you do about it? So what did we do?

We sold most of our real estate holdings. We reduced holdings in many areas. We liquidated holdings in large funds, our opportunistic debt funds that we had formed in 01, 02, 04, etc. We sold those holdings. We raised either small funds or no funds, and we waited.

for this behavior to produce opportunities after it passed. On the first day of '07, Bruce and I sent a memo to our clients saying we'd like to have $3.5 billion for the distressed debt fund. The largest distressed debt fund in history had been $2 billion. It was our '01 fund. We wanted $3.5 because we thought there was something big coming. And within a month, we had $8 billion.

We went to our investors, we said, we can't use 8 billion, we'll take 3.5. We closed that fund in March of '07. But we said, we'd like to have the rest of your appetite for a standby fund. And we continued for a year to raise a standby fund. Again, in an area where the biggest fund in history was 2 billion, we raised 11 billion. And that was our fund 7B. And we put it on the shelf. And we said, this is for when the stuff hits the fan.

and we're not going to invest it until that time, and we're not going to charge any fees. And it's just commitments on the shelf because we'd like to have capital we can draw. And when Lehman went bankrupt on September 15th of '08, we had that $11 billion. We had only invested about $1 billion. We had $10 billion that we could call on. And so unlike most people, we didn't have to worry about where are we going to get money.

Or can we invest? Or are our clients going to withdraw their money? Rather than, we had commitments we were sure we could draw. And so we could plunge in. And we started to invest. Bruce does the investing. And we developed our position jointly. And we decided to get down to work. So the next week after the Lehman bankruptcy, it was Friday the 15th,

We started investing and he invested for that fund alone, $450 million a week on average for the next 15 weeks. That's 7 billion in one quarter. Remember in an area where the biggest fund in history was 2 billion. Why? Because we had prepared mentally. We had noted the bad climate. We had prepared for a denouement and we

swung into action when it arrived. And I was very proud of him for taking that position. And people on the street have told me that in that quarter, we were the only buyer. Well, that's how you get good deals. If you can buy when nobody else is buying, you get your pick of the litter at low prices. So that's, I just gave you a four or five year, I guess, four year description of a process. But man, you have to be patient.

Because in 05-06, we were doing nothing, just selling, and we were not rewarded in 05 or 06 for that behavior. The reward came at the end of 08.

But, you know, I think it's not everybody's in a position to apply that process to that extent. But I think it describes the process. And of course, I use it as an example for one simple reason. It was successful. Always a good, always a good outcome when you have the success from it. Obviously, fantastic story. Your latest memo, which is

inspired us to reach out and want to chat with you on Bubble Watch. And as you mentioned, it is the 25th anniversary of the bubble.com memo. And so 25 year anniversaries are just probably a good time to go back. But on the other hand, there is also this moment that we alluded to in the intro of incredible enthusiasm, really for like a handful of tech AI related names that's lifting the entire market up.

Is this one of the moments? I mean, what is the temperature right now as you see it? You've mentioned you've had five moments, sort of maybe five calls in your career. Is this a sixth right now? No, it's not. Okay. Because you asked before, behavioral or numerical? The main observations today are numerical. Yeah. The PE ratio on the S&P 500 is elevated relative to historic norms.

And the so-called Magnificent Seven, the biggest companies in the S&P, dominate its behavior, are going up or have been going up rapidly. And they're hot stocks. And when you see one group perform especially well, you have to ask whether it's a bubble. And the S&P, of course, has gone up more than 20% a year for the last two years. And it's only the

I think the fifth time, according to JP Morgan, the fifth time in history. So you have to ask these questions. But the troubling aspects, those are numerical. And what I say in the memo is that, in my opinion, it lacks the behavioral aspects of a bubble. And I talk about some of them. And I say that a bubble is not just a numerical bubble.

It is behavioral. And a bubble is really, it's not a rise. That's a bull market. It's not high prices. A bubble is a temporary mania in which people are so agog at things that they throw over all discipline, all caution. And I just don't, it just doesn't feel to me like we're there. We're high priced. I say lofty, but not nutty.

And the bubbles I've seen and I've lived through starting with the day I joined this business in 69, we had what was called the 50-50. What you see going on is what they call in literature, the willing suspension of disbelief. You know, I know it's high, but if I don't go in, I could miss something. Or I know it's high, but...

I don't think it's going to end tomorrow. And by the way, if it ends, I'll just get out. And of course, as I mentioned in the memo, the real hallmark of a bubble is when people say, it's so great, this thing we're talking about, whether it's the Nifty 50 stocks in 69 or NVIDIA today or TMT in 99, they say it's so great that there's no price too high. And that was the official dictum.

in the money center banks in '69, with regard to the 1950, it was the official victim with regard to the internet in '99. What did people say? The internet will change the world. For the stocks, there's no price too high. Well, guess what? The internet did change the world. But because they bid up the stock so high, the people who invested in them lost almost all their money.

So, you know, people become psychologically unhinged and not tethered to reality. And their portfolios slip their moorings. And they think that they've found the perpetual motion machine or a tree that'll grow to the sky. And I just don't see those psychological or behavioral aspects today. Yeah.

So one of the things that Joe likes to emphasize when it comes to, well, the tech bubble specifically is the importance of stories or narratives. So one of the things that will drive this kind of behavior is you'll see a company come out with like,

This huge ambition. I think Joe's favorite example is wasn't there like a car company that claimed to have found the cure to AIDS? That's right. This is a good story. This was 1999 and people were just so optimistic that they thought a used car dealership in Nevada had in their back office found a cure for AIDS. That never ceases to amaze me. This is a real story. I'll tweet out a link when this episode comes out.

So nowadays, there's an argument that some people make that we have a faster tech cycle than ever. And that means more stories can be generated more quickly. And given that you're a veteran in the space, can you maybe compare and contrast the tech cycle now to previous history?

Well, listen, Tracy, number one, I'm not an equity guy. Number two, I'm not a tech person. I have no personal knowledge of the tech companies of today.

I have an idea about AI. I've seen it do wonderful things. So far, most of my direct experience is with what I would call parlor games. I did an interview like this one with a Korean media company that I've worked with over the years. They sent me a video clip of it. And in the video clip, I'm sitting there speaking Korean.

It wasn't titles. It wasn't dubbed. I'm speaking Korean. And not only it, and it's, it's not somebody else's voice coming out of my mouth. It's my voice coming out of my mouth in Korean. And my lips are moving correctly. Now,

that's an incredible accomplishment. I don't know if it's a moneymaker. I guess what I'm saying is, I don't know exactly how AI is going to be used in the future, but I can imagine that it's going to have a significant impact when computers can start thinking and doing things like that. It will change the world.

Jobs are going to be created. Jobs are going to be lost. Efficiencies are going to be created. Maybe whole new products. But I list in the memo a couple of the mistakes people make. And I saw it with the nifty 50, by the way. So in 1969, this was a list of roughly 50 companies, the best and fastest growing companies in America, companies that were so great that number one, nothing bad could ever happen. And number two, as I said, there was no price too high.

And if you bought those stocks in '69, you held them for five years. As I recall, you lost about 95% of your money because the price turned out to have been too high and it came down by 90%, the PE ratio, and some of them ran into fundamental problems and had to be rescued or went through bankruptcy or disappeared from existence. So people assume that the trends that are underway will continue.

One is the trend toward the Internet in 99. Another is the trend toward AI today and that it will be of great consequence. And I'm sure it will. They also believe, however, that the companies that are successful today will continue to be successful, that they won't be challenged or disrupted or displaced.

When the thinking really gets optimistic, they conclude that every company can succeed. And we know that that's highly unlikely. There are going to be winners and losers. We can't always predict which is which. If we find a company that's a leader today and dominant, and we pay a price consistent with that dominance, and they turn out not to be dominant,

price may turn out to have been excessive. Then ultimately, people engage in what's called lottery thinking, or what I call lottery, which is, well, it's nowhere as a competitor in this new thing, but maybe it has a 2% chance of becoming a big winner and going up 1000 times.

And if it could go up a thousand times, then I can pay a P-E ratio of 100x because I'll still make money.

So they will buy into things that have a very low probability of producing a very good outcome. And that's like buying a ticket in the lottery. And most lottery tickets are losers. But this is what happens in bubbles. Now, you asked me to differentiate. Since I'm not an expert on AI, I can't differentiate. But I think there's a very good comparison to the internet. We expected the internet to change the world.

We can't imagine today living in the pre-95 world without all the tech we have today. And yet, the vast majority of internet and e-commerce companies that were minted in 98, 99, 2000 are out of business and worthless. I'm not sure it's going to be the case with AI, but it has to give you caution.

That's all I'm saying. Just keep your eyes open and don't drop all reason in a rush to get in. And by the way, one of the great differences in a bubble is that usually people are afraid of losing money. But one of the hallmarks of a bubble is that people forget to worry about losing money and only worry about missing out. FOMO. When FOMO takes over,

People say, "Yeah, well, the price seems high, but if my competitor or my golf buddy or my brother-in-law buys it and I don't buy it and it triples, I'm going to kill myself. So I got to buy it regardless." I guess maybe to sum up on bubbles, a great way to characterize that is that it's when people say, "I got to buy it regardless."

And I would argue prudently that nobody should ever do something regardless. 89% of business leaders say AI is a top priority, according to research by Boston Consulting Group.

But with AI tools popping up everywhere, how do you separate the helpful from the hype? The right choice is crucial, which is why teams at Fortune 500 companies use Grammarly. With over 15 years of experience building responsible, secure AI, Grammarly isn't just another AI communication assistant. It's how companies like yours increase productivity while keeping data protected and private.

Designed to fit the needs of business, Grammarly is backed by a user-first privacy policy and industry-leading security credentials. This means you won't have to worry about the safety of your company information. Grammarly also emphasizes responsible AI so your company can avoid harmful bias.

See why 70,000 teams and 30 million people trust Grammarly at grammarly.com slash enterprise. That's Grammarly at grammarly.com slash enterprise. Grammarly. Enterprise-ready AI.

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I guess I'm interested a little bit more in why you don't see those characteristics today, because all people talk about is AI. We just had the president make this big announcement, we're going to spend half a trillion on data centers and so forth. It's just this dominant mode of conversation. I'm sort of of two minds of this because I've been hearing

you know, regular people on the street talk about their speculations or their Robinhood accounts or their crypto accounts, whatever, for years now. And mostly the prices have been going up. It certainly feels to me like some of the indicators that you describe of fear of missing out and so forth currently exist in this incredible, this incredible hype. I'd like to hear you talk a little bit more about why, why,

Right now, mostly you just see, yes, the math is expensive, the numbers are expensive, but you don't feel that sort of euphoria that has characterized past bubbles. Well, you know, I guess, Joe, part of it is that I don't live in that world. You know, since I'm a credit guy and not a tech person, I don't spend much time talking to people who are interested in AI stocks or who are doing AI businesses.

So it might just be that I'm missing that. So, you know, some of the conditions, some or all of the conditions of a bubble might be present in a few stocks or in the AI and related niche. I'm just saying that I don't feel it across the world.

And if you take the Magnificent Seven out of the equation, I think things are rich, but not crazy. I did read an article on that subject. I did read an article about a month or two ago, which said that if you look at the S&P and leave out the Magnificent Seven, and you compare the S&P companies with their non-US equivalent companies,

in something like the MSCI index of non-US equities, you'll find that the US equities in every industry just about sell at higher P/E ratios than their counterparts outside the US. So I think the US is more expensive than the rest of the world. Again, not crazy. And by the way, I'm convinced that the US has the best economy in the world.

And all these questions, especially in the stock market, in the bond market where I mostly work, the credit market, you have an indicator of value, which is the yield. And you look at the promised return from a given investment, and you say, well, I think that's sufficient to reward for the risk or not. In other words, I think the price is fair or it's not fair or it's too cheap or too high.

In the stock market, it's hard to do that because in the stock market, you can enumerate the pluses and minuses of a given company or industry or phenomenon like AI, but it's hard to say, but the current price is fair or too high or too low. It's hard to turn a recitation of merit into the fairness of value.

And so, yeah, people may be too excited about AI and that may result in prices that are too high for their stocks.

And, you know, I spent in 2020 during the pandemic, I spent a lot of time living with my son and his family. And one thing he talked me out of, he says, Dad, you ought to stop talking about things you don't know anything about. Only a son can say that to his father. But I think it's good advice. As we get more specific in this conversation, and it goes from stock market to S&P to AI,

you know, I become more reticent to say anything concrete because I really don't have superior knowledge. And my hero, John Kenneth Galbraith, said that one of the shortcomings of the market is the specious relationship between money and intelligence. And most people tend to look at somebody who's made money, and especially who's made money in the markets, and credit them with general intelligence, which is usually a mistake. LESLIE KENDRICK: So

I just have one more question. And I guess it's about the aftermath of bubbles. And it's based on a conversation that you had with Mike Milken at the Milken Conference. And both of you were on stage and reminiscing about your time in the markets. And one of the stories you were telling was about the bursting of the nifty 50 bubble and its

impact on the development of the financial industry. And I think the idea was that all these people had put their money into things that were expected to be quite reliable, reliable stocks, stalwarts of corporate America, and then they lost virtually all their money.

And that development ended up catalyzing the money management industry, because if you could lose money on boring stuff like blue chip stocks, then why not try high yield or some alternative credit instead?

And I guess I'm curious, do you see any interesting developments in the finance industry right now, perhaps not in the immediate aftermath of a bubble, but, you know, maybe related to a paradigm shift like higher interest rates?

First of all, I have been writing something about something called the sea change. I met Mike in 78. That's when Citibank asked me to look into high yield bonds. And I was very fortunate. It was maybe the luckiest day in my life that I got that call because, you know, that put me at the front of the line that that's kind of the year that the high yield bond market began.

began and became very important. And here I was, no fault of my own, you know, working there. And the high yield bond fund that I started at Citi in 78 might have been the first one from a mainstream financial institution. And as Malcolm Gladwell said in his book, Outliers, you know, it's great to be demographically lucky. So in 1980, the Fed funds rate reached 20. Paul Volcker, as head of the Fed, put the Fed funds there

to battle the inflation that was rampant at the time. And it worked. And I had a loan from the bank. And I got a slip in the mail saying that the rate on your loan is now 22 and a quarter. And that was 80. And in 2020, I was able to borrow at 2 and a quarter percent. So rates came down by 2,000 basis points over 40 years. I believe that was a paradigm shift. And that changed the whole world.

and it made a lot of people a lot of money. But I published a memo in December of 22 called Sea Change saying that it's over. We're no longer in an environment where declining rates and ultra low rates are going to be the rule. We're going to have higher rates and they're going to be essentially stable, not downward trending all the time. The other thing that you note is that

Prior to the meltdown of the nifty-fifty, the simplistic thought process in investing was that it's responsible to buy high-quality assets, and it's irresponsible to buy low-quality assets. The job of the fiduciary was to buy high-quality assets. Well, here, the best companies in America, you lost almost all your money.

Then I shifted to high yield bonds. Now I'm investing in arguably the worst public companies in America and making money steadily and safely. So it did occasion a sea change

in how investing is done. And it was a very important lesson that I was happy to learn at the very beginning of my career. I was 23 years old when I started working in '69, and I lived through this whole collapse in my 20s. And it's very important to learn your lessons early. And the lesson I learned was,

that successful investing doesn't come from buying good things, but from buying things well. And if you don't understand the difference, it's more than grammatical. And that it's not what you buy that matters, it's what you pay. The price has to be fair. And there is no asset which is so good that it can't become overvalued and dangerous. And there are very few assets that are so bad that they can't become cheap enough to be attractive.

It was an epiphany for me, and I think it changed the whole world. And we no longer say, is it a good asset or a bad asset or a good company or a bad asset? We say, is it risky? How risky is it? What return do we expect? Is the return sufficient to compensate for the risk? And that is the change that has dominated the investment world for the last, I would say, 47 years, since '78.

We do so many things today like venture capital and private equity and trans securities, which entail conscious risk bearing that couldn't have been done in the old world of good and bad or safe and risky. I just have one last question. I was going to let Tracy have the last question, but you said one thing that hit

hit something that's been on my mind. And you mentioned in the summer of 2020, being able to borrow money for 2%. One of the questions that's been debated the last several years is, why haven't the interest rate increases that we've seen across the curve had a more dampening effect on the strength of the US economy? And one story that gets put out is that a lot of borrowing entities, whether they're households like yourselves or various firms, a

locked in very low borrowing in those couple of years and that the effect of higher rates, therefore, has been muted, hasn't transmitted to the real economy. Have we felt that adjustment yet? Is there something coming because those rates can't stay locked in forever, especially for shorter term borrowing? Have we felt the impact of this sea change yet on the economy? Or is there more to come downstream from this reversal of what may be a 40 plus year trend?

No, I think it clearly hasn't worked its way through because when you borrow money, you borrow for a period of time. And if you borrow at a fixed rate, there's also a flooding rate borrowing. But if you borrow at a fixed rate, you fix your rate for a maturity of five or seven years, then even if rates go up, you're immune to it and you don't feel the impact until your debt matures and has to be rolled over.

People in this business or in the business world in general are not brain dead. And many of them, as you say, rolled over their debts in 2020 or 21 and locked up low cost debt until 26 or 27. So they're fine.

But, you know, maybe they took on too much debt when debt was cheap and readily available. And maybe they won't be able to refinance all of it, or some of them may not be able to refinance all of it when it rolls over in 26 or 27. That's what we call a credit crunch. When you can't roll over your debts, nobody ever repays their debts. They just roll them over. And sometimes you can't.

We believe that there are already some defaults.

Not many compared to the crises in the past. But, you know, when maturities start coming due in 26, 27, and if Wall Street or the banks are a little less generous and optimistic, maybe there'll be some difficulty rolling it over. And then, you know, and just the cost of money. So, you know, the federal government has a portfolio of debt. They don't own a portfolio. They owe money.

a portfolio of debt, some of which is long and some of which is short. And so they're paying low rates on the long debts. But again, when that comes due, they'll have to roll that over at higher rates, and it'll cost them money. And so if the interest rate merely stays where it is, the cost of

capital to the US government will rise over time as they replace low rate, low cost debt with high cost debt. So this has not fully worked itself through through the economy yet. And there's more of it to come. All right, Howard Marks, we could easily keep going for a couple more hours, probably longer than that. But this has been an absolute treat. Thank you so much for coming on the show.

Well, thank you for your good questions. And I'd be glad to do it too. And let's do it again sometime. Absolutely. We'd love to. Thank you so much, Howard. Joe, I thought that was so interesting. So first of all, you know that I love just listening to like wartime financial crisis stories. So that was great. And then I thought one thing that was really interesting. Well, first of all,

There aren't as many cross-asset investors as you might think out there. And so it's really interesting to hear someone that is, you know, firmly in the credit space but is also looking at other asset classes in order to judge current market conditions.

And then the other thing I thought was the emphasis on action being sort of a spectrum of caution and risk. So it's not the tech bubble is about to come and, you know, sell all your tech exposure. It's more like maybe I should ratchet down a little bit, maybe start raising, you know, some dry powder for a rainy day.

- That was really interesting, the specific story, the sequence of raising that dry powder, starting with the warning in 2005,

that didn't get deployed or wasn't able to be paid off for years. But the idea of, okay, if you see something coming down the horizon, it's not enough to say, well, yes, there's going to be an opportunity. The idea of, you know, raising one fund and then having that other fund on the shelf, cash that can be callable for the day that it comes. You know, there were a lot of people that probably thought, oh, there are really good deals to be had in September 2008 or March 2009 or whatever.

But there's no good in having stuff being cheap if you don't have any cash available to buy it. Do people still call it patient capital? I remember people used to call, you know, dry powder patient capital because the idea was you set it aside and it might be a long time until you're actually able to invest it. You also, you know, this also strikes me as where like brand value of a firm. Yeah.

really matters, right? Because you're not going to get billions in excess commitments into that. You know, you and I aren't going to get... It's like Tracy and I, it's like, oh, we think AI is going to crash in a few years or we want to buy... Give us 10 billion. We want to buy data center real estate on the cheap, so give us a billion. But you know, that's the only... That's a thing that you can monetize

only after having years of success. I thought it's interesting, this idea of there's a difference between expensive and a bubble. And that in his assessment...

We're not there yet. And I really appreciate his perspective because it's easy for me to say on the day, oh, everyone's talking about AI all the time, etc. And therefore, we must be near the top of our bubble. But I don't have experience in markets going back to the 1960s of what that actually feels like.

Well, when a car company or car rental company in Nevada says that it's like they have a new AI model or something that's going to start, I don't know, that's going to revolutionize the world. Yeah. Then maybe that's the time to be concerned. That's how we'll know.

All right. Shall we leave it there? Let's leave it there. This has been another episode of the All Thoughts Podcast. I'm Traci Alloway. You can follow me at Traci Alloway. And I'm Jill Wiesenthal. You can follow me at The Stalwart. Follow our producers, Carmen Rodriguez at Carmen Arman, Dashiell Bennett at Dashbot, and Kale Brooks at Kale Brooks.

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