Mastering the Market Cycle – Howard Marks

The legendary investor shows how to identify and master the cycles that govern the markets. We all know markets rise and fall, but when should you pull out, and when should you stay in? The answer is never black or white, but is best reached through a keen understanding of the reasons behind the rhythm of cycles.

Tendencies

  • Determine what is more likely to happen
  • Tell with certainty whether if it’s a bull market or bear market

Cycles

  • Cycle oscillates around a secular trend
  • Most show the following behaviour:
    • Reversion to the mean from an excessive low
    • Continuation past midpoint towards an extremely high
    • Reaching a high
    • Reversion to meet from an excessive high
    • Continuation past the midpoint to an extreme low
    • Reaching a low
    • Reversion to the mean
  • Stock market is a pendulum; swings from greed to fear

What Influences the Market Cycle?

  • Economic cycle: GDP (hours worked x productivity)
  • Cycle in profits: profits in businesses (PE indicator)
  • Credit cycle
  • Cycle in psychology

Taking the Temperature of the Market

  • Valuation of the stock market
  • How do other investors feel about risk

Aggressiveness vs Defensiveness

  • Aggressive portfolio: risk more capital, hold lower quality companies, make investments that are highly dependable on good macro-economics, use financial leverage
  • Defensive portfolio: hold cash, invest in safer assets (bonds/treasury bills), buy strong companies that aren’t cyclical, stay away from financial leverage