Marks: Ask the price first
Howard Marks’s 2003 Oaktree memo argues that no asset is inherently good or bad apart from price, making valuation discipline the foundation of defensive investing.
This week's piece is drawn from Howard Marks's July 1, 2003 Oaktree memo, "The Most Important Thing." Marks, the co-founder and co-chairman of Oaktree Capital Management, used the memo to compress his investment philosophy into 18 principles, covering valuation, defense, cycles, contrarian behavior, leverage, market efficiency, and client alignment. The memo later became the basis for his 2011 book, The Most Important Thing: Uncommon Sense for the Thoughtful Investor. 1 2
Marks gives the title phrase away early, but not in the way a reader might expect. The most important thing is not temperament, patience, superior information, or even courage. It is the relationship between price and value.
The passage to keep is this one:
"It has been demonstrated time and time again that no asset is so good that it can't become a bad investment if bought at too high a price. And there are few assets so bad that they can't be a good investment when bought cheap enough." 1
That sentence is usually read as a valuation rule. It is that, but in the memo it does heavier work. Marks uses it as the hinge that connects almost everything else he believes: why investors should be defensive, why they should mistrust macro certainty, why cycles matter, why contrarian behavior is difficult, and why leverage can make a decent investment dangerous.
Price comes before admiration
Marks's first target is the habit of treating an asset class or company type as inherently superior. He writes that when investors say "we only buy A" or "A is a superior asset class," the statement begins to sound like a willingness to buy A at any price. His answer is blunt: "No asset class or investment has the birthright of a high return. It's only attractive if it's priced right." 1
The memo's simplest analogy is also its best. If Marks offered to sell a car, the buyer would ask the price before saying yes. He argues that investors become less disciplined when the object is a security instead of a car. They decide they want technology stocks, or refuse to own junk bonds, before doing the valuation work. Marks cites technology stocks in the late 1990s and junk bonds in the 1970s and early 1980s as examples of that mistake. 1
The deeper warning is about the phrase "good company." Marks says his biggest observed investor losses over 35 years came from securities of companies that buyers considered nearly perfect, bought at prices that already assumed perfection and more. His conclusion is a clean separation: "good company" and "good investment" are not synonyms. 1
That distinction is uncomfortable because quality feels morally safer than price. A dominant business, a clean balance sheet, or a beloved product can make the owner feel prudent. Marks is saying the prudence may be illusory if the entry price leaves no room for disappointment.
Defense begins with what the price already assumes
The memo's defensive-investing section is often reduced to one line:
"If we avoid the losers, the winners will take care of themselves." 1
In context, the sentence is not a slogan for timidity. Marks says Oaktree's preferred route is avoiding losing investments, while acknowledging that other investors may succeed with more aggressive methods. He defines the ingredients of defensive investing as solid identifiable value at a bargain price, diversification rather than concentration, and avoiding dependence on macro forecasts and market timing. 1
The price discipline comes first. If an investment is bought below intrinsic value, Marks argues, the buyer has larger prospective gains, smaller prospective losses, and easier exits. That is the practical meaning of margin of safety. The investor is not relying on everything going right. The price itself absorbs some error. 1
Marks then gives the plain-English version:
"'Defensive investing' sounds very erudite, but I can simplify it: Invest scared!" 1
The exclamation point matters. Marks is not recommending permanent pessimism. He is recommending a state of alertness: worry about loss, unknown information, bad luck, and surprise events. The investor who "invests scared" demands a wider gap between price and value because the investor accepts that even high-quality decisions can meet bad outcomes.
Cycles turn valuation into psychology
Marks's cycle section explains why the price-value gap opens and closes. Economies, corporate performance, world affairs, and investor reactions all move cyclically, he writes. Prices usually overstate those swings. Good developments lead investors to bid assets above intrinsic value. Bad developments lead them to sell assets below it. 1
His warning is direct:
"Ignoring cycles and extrapolating trends is one of the most dangerous things an investor can do." 1
This is where price becomes a record of emotion. Near a peak, the market often prices a strong business as if strength will continue without interruption. Near a trough, the market often prices a weak business as if weakness will continue without relief. The same act, buying a security, can be conservative or reckless depending on what future the price already assumes.
Marks supports the point with Sir John Templeton's line: "To buy when others are despondently selling and to sell when others are euphorically buying takes the greatest courage but provides the greatest profit." 1 The courage is not theatrical. It is the willingness to let price, rather than social approval, determine whether a security deserves attention.
Leverage fights the margin of safety
Marks's leverage discussion follows naturally from the same premise. He says Oaktree's approach seeks out-of-favor assets, estimates intrinsic value, buys for less, and works with assets after purchase. Done well, those actions can raise prospective return while reducing risk. Leverage is different. It raises prospective return and raises risk. 1
His phrasing is deliberately plain: "There's nothing magic about leverage." It increases upside potential, but it also reduces or eliminates the margin of safety. Marks compares it to the Las Vegas maxim that the more one bets, the more one wins when one wins, then adds the missing half: the more one loses when one loses. 1
That is why leverage belongs in the same article as valuation, not in a separate risk-management drawer. If the central discipline is buying with room for error, borrowed money narrows the room. Marks allows that leverage may be acceptable when profit opportunities are unusually generous. He rejects using leverage to manufacture large returns from small margins. 1
The calibration question
The useful question from this memo is not "Is this a great asset?" Great assets can be bad investments. Ugly assets can be good investments. The better question is: "What has to be true for this price to work?"
That question forces three follow-ups. First, what future is already embedded in the valuation? Second, how much can go wrong before the investment thesis breaks? Third, is the current price being set by enthusiasm, despair, or a sober estimate of value?
Marks's philosophy is sometimes described as conservative. That is accurate only if conservative means refusing to let admiration replace arithmetic. The memo is not against quality, optimism, or courage. It is against paying so much for them that the investor has no protection left.
For a long-term investor, the lasting discipline is to ask the price before falling in love with the asset. Marks's car analogy is almost embarrassingly simple. That is why it works. In markets, sophistication often begins with remembering the question a buyer would ask in any ordinary transaction: how much?
Cover image: image from Howard Marks — Oaktree Leadership Bio.
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