To buy when others are despondently selling and to sell when others are euphorically buying takes the greatest courage, but provides the greatest profit.

Investing consists of exactly one thing: dealing with the future. And because none of us can know the future with certainty, risk is inescapable.The first step consists of understanding it. The second step is recognizing when it’s high. The critical final step is controlling it. Because the issue is so complex and so important, I devote three chapters to examining risk in depth.people are naturally risk- averse, meaning they’d rather take less risk than more.

Risk

one of the most important things to bear in mind today is that economics isn't and exact science. it may not even be much of a science at all,in the sense that in science, controlled experiments can be conducted, past results can be replicated with confidence, and cause-and effect relationships can be depended on to hold."One of the things i most want to emphasize is how essential it is that one's investment approach be intuitive and adaptive rather than be fixed and mechanistic.""The defitnition of successful investing is doing better than market and other investors"

First level thinkers look for simple formulas and easy answers, second level thinkers know that success in investing is the antithesis of simple. "Brokerage firms want you to think everyone's capable of investing-- at 10$ per trade. Mutual fund companies don't want you tp think you can do it; they want youto think they can do it. In the case, you'll put your money into actively managed funds and pay associated high fees.

• Some investors can consistently outperform others. coz of the existence of(a) significant misvaluations (b) differences among participants in terms of skill, insight and information access, it is possible for misvaluations to be identified and profited from with regularity.Inefficient markets do not necessarily give their participants generous returns. Rather, it’s my view that they provide the raw material— mispricings—that can allow some people to win and others to lose on the basis of differential skill. If prices can be very wrong, that means it’s possible to fi nd bargains or overpay.

• They’re also glad to share their views with others, even though correct forecasts should be of such great value that no one would give them away gratis.• They rarely look back to rigorously assess their record as forecasters.Confident is the key word for describing members of this school. For the “I don’t know” school, on the other hand, the word—especially when dealing with the macro- futureis guarded.Its adherents generally believe you can’t know the  future; you don’t have to know the future; and the proper goal is to do the best possible job of investing in the absence of that knowledge

<ul><li>Risk exists only in the future, and it’s impossible to know for sure what the future holds. </li><li>Decisions whether or not to bear risk are made in contemplation of normal patterns recurring, and they do most of the time. </li><li>Projections tend to cluster around historic norms and call for only small changes. </li><li>We hear a lot about “worst- case” projections, but they often turn out not to be negative enough.</li><li>Risk shows up lumpily.</li><li>People overestimate their ability to gauge risk and understand mechanisms they’ve never before seen in operation. </li><li>most people view risk taking primarily as a way to make money</li></ul>

Here’s my wrap- up on understanding risk:

The way I see it, day traders considered themselves successful if they bought a stock at $10 and sold at $11, bought it back the next week at $24 and sold at $25, and bought it a week later at $39 and sold at $40. If you can’t see the fl aw in this— that the trader made $3 in a stock that appreciated by $30.

Day traders

Investing is a popularity contest, and the most dangerous thing is to buy something at the peak of its popularity.The safest and most potentially profitable thing is to buy something when no one likes it. Given time, its popularity, and thus its price, can only go one way: up.

Buy it when its not known

A market characterized by mistakes and mispricings can be beaten by people with rare insight. Thus, the existence of inefficiencies gives rise to the possibility of outperformance and is a necessary condition for it. It does not, however, guarantee it.

The upshot is simple: To achieve superior investment results, you have to hold nonconsensus views regarding value, and they have to be accurate. That's not easy. The attractiveness of buying something for less than it’s worth makes eminent sense. So how is one to find bargains in efficient markets? You must bring exceptional analytical ability, insight or foresight. But because it’s exceptional, few people have it.“Returns and How They Get That Way,” November 11, 2002"

There’s even something called “net- net investing,” in which people buy when the total market value of a company’s stock is less than the amount by which the company’s current assets— such as cash, receivables and inventories— exceed its total liabilities.In this case, in theory, you could buy all the stock, liquidate the current assets, pay off the debts, and end up with the business and some cash. Pocket cash equal to your cost, and with more left over you’ll have paid “less than nothing” for the business.

Net-Net investing

Everything should be made simple as possible, but not simpler

Given the difficulty of quantifying the probability of loss, investors who want some objective measure of risk- adjusted return— and they are many— can only look to the so- called Sharpe ratio. This is the ratio of a portfolio’s excess return (its return above the “riskless rate,” or the rate on short- term Treasury bills) to the standard deviation of the return. This calculation seems serviceable for public market securities that trade and price often; there is some logic, and it truly is the best we have.

Sharpe ratio

One of the great sayings about poker is that “in every game there’s a fish. If you’ve played for 45 minutes and haven’t fi gured out who the fish is, then it’s you.” The same is certainly true of inefficient market investing.

“Risk means more things can happen than will happen.”

An accurate opinion on valuation, loosely held, will be of limited help. An incorrect opinion on valuation, strongly held, is far worse. Th is one statement shows how hard it is to get it all right.

Something else to keep in mind: just because efficiencies exist today doesn’t mean they’ll remain forever.Bottom line: Inefficiency is a necessary condition for superior investing. Attempting to outperform in a perfectly effi cient market is like flipping a fair coin: the best you can hope for is fifty- fifty. For investors to get an edge, there have to be ineffi ciencies in the underlying process— imperfections, mispricings— to take advantage of.

<ul><li class="ql-align-justify">Benefiting from a rise in the asset’s intrinsic value.</li><li class="ql-align-justify">Applying leverage.</li><li class="ql-align-justify">Selling for more than your asset’s worth.</li><li class="ql-align-justify">Buying something for less than its value.</li></ul>

Consider the possible routes to investment profit:

The desire for more, the fear of missing out, the tendency to compare against others, the influence of the crowd and the dream of the sure thing— these factors are near universal. Thus they have a profound collective impact on most investors and most markets. The result is mistakes, and those mistakes are frequent, widespread and recurring.

The Most Important Thing Is . . . 
Combating Negative Influences

Outstanding investors, in my opinion, are distinguished at least as much for their ability to control risk as they are for generating return.What ever few awards are presented for risk control, they’re never given out in good times. Th e reason is that risk is covert, invisible. Risk— the possibility of loss— is not observable. What is observable is loss, and loss generally happens only when risk collides with negative events.Germs cause illness, but germs themselves are not illness. We might say illness is what results when germs take hold.

Controlling "RISK"

What is it that makes a security or the underlying company valuable? There are lots of candidates: financial resources, management, factories, retail outlets, patents, human resources, brand names, growth potential and, most of all, the ability to generate earnings and cash flow. • Value investors buy stocks (even those whose intrinsic value may show little growth in the future) out of conviction that the current value is high relative to the current price.

• The economy moves into a period of prosperity.• Providers of capital thrive, increasing their capital base.• Because bad news is scarce, the risks entailed in lending and investing seem to have shrunk.• Risk averseness disappears.• Financial institutions move to expand their businesses— that is, to provide more capital.• They compete for market share by lowering demanded returns (e.g., cutting interest rates), lowering credit standards, providing more capital for a given transaction and easing covenants.

The process is simple

Momentum investing might enable you to participate in a bull market that continues upward, but I see a lot of drawbacks. One is based on econo￾mist Herb Stein’s wry observation that “if something cannot go on forever, it will stop.” What happens to momentum investors then? How will this approach help them sell in time to avoid a decline? And what will it have them do in falling markets?

Value investors score their biggest gains when they buy an underpriced asset, average down unfailingly and have their analysis proved out. Thus, there are two essential ingredients for profi t in a declining market: you have to have a view on intrinsic value, and you have to hold that view strongly enough to be able to hang in and buy even as price declines suggest that you’re wrong. Oh yes, there’s a third: you have to be right.

Buy it underpriced

Investment success doesn’t come from “buying good things,” but rather from “buying things well.”

The Most Important Thing Is . . . The 
Relationship Between Price and Value

The art of investment has one characteristic that is not generally appreciated. A creditable, if unspectacular, result can be achieved by the lay investor with a minimum of effort and capability; but to imrove this easily attainable standard requires much application and more than a trace of wisdom

Think of it this way:• Why should a bargain exist despite the presence of thousands of investors who stand ready and willing to bid up the price of anything that’s too cheap?• If the return appears so generous in proportion to the risk, might you be overlooking some hidden risk?• Why would the seller of the asset be willing to part with it at a price from which it will give you an excessive return?• Do you really know more about the asset than the seller does?• If it’s such a great proposition, why hasn’t someone else snapped it up?

• Their ups and downs are inevitable.• They will profoundly influence our performance as investors.• They are unpredictable as to extent and, especially, timing.

Market cycles present the investor with a daunting challenge, given that:

<ul><li>One is beta, a measure of a portfolio’s relative sensitivity to market movements.</li><li>The other is alpha, which I define as personal investment skill, or the ability to perform that is unrelated to movement of the market.</li></ul>portfolio with a beta above 1 is expected to be more volatile than the market, and a beta below 1 means it’ll be less volatile.Multiply the market return by the beta and you’ll get the return that a given portfolio should be expected to achieve, omitting nonsystematic sources of risk.If the market is up 15 percent, a portfolio with a beta of 1.2 should return 18 %.  y = α + βx

Beta and alpha [y = α + βx]

“The market can remain irrational longer than you can remain solvent.”

Oh yes; the biggest problems tend to arise when investors forget about the difference between probability and outcome—that is, when they forget about the limits on foreknowledge:• when they believe the shape of the probability distribution is knowable with certainty (and that they know it),• when they assume the most likely outcome is the one that will happen,• when they assume the expected result accurately represents the actual result, or• perhaps most important, when they ignore the possibility of improbable outcomes.Imprudent investors who overlook these limitations tend to make mistakes.

Probability vs outcome

<ul><li class="ql-align-justify">The positives behind stocks can be genuine and still produce losses if you overpay for them.</li><li>“Prices are too high” is far from synonymous with “the next move will be downward.” Things can be overpriced and stay that way for a long time . . . or become far more so.</li><li>Eventually, though, valuation has to matter.</li></ul>

What is it that makes a security— or the underlying company— valuable? There are lots of candidates: financial resources, management, factories, retail outlets, patents, human resources, brand names, growth potential and, most of all, the ability to generate earnings and cash flow. The emphasis in value investing is on tangible factors like hard assets and cash flows.Intangibles like talent, popular fashions and long- term growth potential are given less weight.

To me, an ineffi cient market is one that is marked by at least one of the following characteristics: • Market prices are often wrong. Because access to information and the analysis thereof are highly imperfect, market prices are often far above or far below intrinsic values.• The risk- adjusted return on one asset class can be far out of line with those of other asset classes. Because assets are often valued at other- than- fair prices, an asset class can deliver a risk- adjusted return that is significantly too high (a free lunch) or too low relative to other asset classes.

The basic reason for the cyclicality in our world is the involvement of humans. Mechanical things can go in a straight line. Time moves ahead continuously. So can a machine when it’s adequately powered. But processes in fi elds like history and economics involve people, and when people are involved, the results are variable and cyclical. Th e main reason for this, I think, is that people are emotional and inconsistent, not steady and clinical.

Another form of relying on past stock price movements to tell you something is so- called momentum investing. It, too, exists in contravention of the random walk hypothesis. I’m unlikely to do it justice. But as I see it, investors who practice this approach operate under the assumption that they can tell when something that has been rising will continue to rise.

Momentum investing

• They think knowledge of the future direction of economies, interest rates, markets and widely followed mainstream stocks is essential for investment success.• They’re confident it can be achieved.• They know they can do it.• They’re aware that lots of other people are trying to do it too, but they figure either (a) everyone can be successful at the same time, or (b) only a few can be, but they’re among them.• They’re comfortable investing based on their opinions regarding the future.

The “I know” school.

Recognizing risk oft en starts with understanding when investors are paying it too little heed, being too optimistic and paying too much for a given asset as a result. High risk, in other words, comes primarily with high prices. participating when prices are high rather than shying away is the main source of risk.

buying overpriced assets is RISK

When people say flatly, “we only buy A” or “A is a superior asset class,” that sounds a lot like “we’d buy A at any price . . . and we’d buy it before B, C or D at any price.” That just has to be a mistake. No asset class or investment has the birthright of a high return. It’s only attractive if it’s priced right.Bottom line: there’s no such thing as a good or bad idea regardless of price!

"The defitnition of successful investing is doing better than market and other investors" and to accomplish that you need either good luck or superior insights.Remember your goal in investing isn't to earn average returns; you want to do better than average. Thus, your thinking has to be better than others

<ul><li>Falling short of one’s goal—</li><li>Underperformance—</li><li>Career risk— </li><li>Unconventionality—</li><li> Illiquidity—</li></ul>Theory says high return is associated with high risk because the former exists to compensate for the latter. But pragmatic value investors feel just the opposite: They believe high return and low risk can be achieved simultaneously by buying things for less than they’re worth. In the same way, overpaying implies both low return and high risk.

Investment risk comes in many forms.

warren buffett is urging us to do the opposite of what others do: to be contrarians.

• So at the extremes, which are created by what “most people” believe, most people are wrong.• Therefore, the key to investment success has to lie in doing the opposite: in diverging from the crowd. Th ose who recognize the errors that others make can profi t enormously through contrarianism.

• Finally, it’s not enough to bet against the crowd. Given the diffi culties associated with contrarianism just mentioned, the potentially profi table recognition of divergences from consensus thinking must be based on reason and analysis. You must do things not just because they’re the opposite of what the crowd is doing, but because you know why the crowd is wrong. Only then will you be able to hold fi rmly to your views and perhaps buy more as your positions take on the appearance of mistakes and as losses accrue rather than gains.

When investors are unworried and risk-tolerant, they buy stocks at high price/earnings ratios and private companies at high multiples of EBITDA (cash flow, defined as earnings before interest, taxes, depreciation and amortization), and they pile into bonds despite narrow yield spreads and into real estate at minimal “cap rates” (the ratio of net operating income to price).

• The pendulum cannot continue to swing toward an extreme, or reside at an extreme, forever (although when it’s positioned at its greatest extreme, people increasingly describe that as having become a permanent condition).• Like a pendulum, the swing of investor psychology toward an extreme causes energy to build up that eventually will contribute to the swing back in the other direction. Sometimes, the pent- up energy is itself the cause of the swing back— that is, the pendulum’s swing toward an extreme corrects of its very weight.

in this chapter howard marks talk about the 6 negative influences that effect the dicision making ability of an investor.<ul><li class="ql-align-justify">Greed</li><li class="ql-align-justify">Fear</li><li class="ql-align-justify">Suspension of disbelied </li><li class="ql-align-justify">Conformism </li><li class="ql-align-justify">Envy </li><li class="ql-align-justify">Ego </li><li class="ql-align-justify">Capitulation </li></ul>

• Contrarianism isn’t an approach that will make you money all of the time. Much of the time there aren’t great market excesses to bet against.• Even when an excess does develop, it’s important to remember that “overpriced” is incredibly diff erent from “going down tomorrow.”• Markets can be over- or underpriced and stay that way— or become more so— for years.• It can be extremely painful when the trend is going against you.

• It can appear at times that “everyone” has reached the conclusion that the herd is wrong. What I mean is that contrarianism itself can appear to have become too pop u lar, and thus contrarianism can be mistaken for herd behavior.

In theory there’s no diff erence between theory and practice, but in practice there is.

Risk means more things can happen than will happen.                                                                          ---ELROY DIMSON

The Most Important Thing Is . . . 
Understanding, Recognizing, and controlling "RISK"

First, it delivers the fatal bullet rather infrequently, like a revolver that would have hundreds, even thousands of chambers instead of six. Aft er a few dozen tries, one forgets about the existence of a bullet, under a numbing false sense of security. . . . Second, unlike a well- defi ned precise game like Russian roulette, where the risks are visible to anyone capable of multiplying and dividing by six, one does not observe the barrel of reality. . . . One is thus capable of unwittingly playing Rus sian roulette— and calling it by some alternative “low risk” name...

Russian roulette

But the tennis the rest of us play is a “loser’s game,” with the match going to the player who hits the fewest losers. The winner just keeps the ball in play until the loser hits it into the net or off the court. In other words, in amateur tennis, points aren’t won; they’re lost. I recognized in Ramo’s loss- avoidance strategy the version of tennis I try to play.

"The loser's Game" by charles ellis

The Most Important Thing Is . . . 
Understanding Market Efficiency (and Its Limitations)

value investing and growth investing. In a nutshell, value investors aim to come up with a security’s current intrinsic value and buy when the price is lower, and growth investors try to find securities whose value will increase rapidly in the future.intelligent investing has to be built on estimates of intrinsic value. Th ose estimates must be derived rigorously, based on all of the available information.

value investing vs growth investing

Every once in a while, someone makes a risky bet on an improbable or uncertain outcome and ends up looking like a genius. But we should recognize that it happened because of luck and boldness, not skill.

The Most Important Thing Is . . . 
Appreciating the Role of Luck

It's not supposed to be easy, anyone who finds it easy is stupid.

The critical element in defensive investing is what Warren Buffett calls “margin of safety” or “margin for error.” Here’s a way to illustrate margin for error. You find something you think will be worth $100. If you buy it for $90, you have a good chance of gain, as well as a moderate chance of loss in case your assumptions turn out to be too optimistic. But if you buy it for $70 instead of $90, your chance of loss is less. That $20 reduction provides additional room to be wrong and still come out okay. Low price is the ultimate source of margin for error.

Margin of safety or magin of error

It’s not hard to perform in line with the market in terms of risk and return. The trick is to do better than the market: to add value.

When friends ask me for personal investment advice, my fi rst step is to try to understand their attitude toward risk and return. Asking for investment advice without specifying that is like asking a doctor for a good medicine without telling him or her what ails you.So I ask, “Which do you care about more, making money or avoiding losses?” The answer is invariably the same: both.Th e best way to put this decision into perspective is by thinking of it in terms of offense versus defense. And one of the best ways to consider this is through the meta phor of sports.

Risk or return = Offense vs defense

It’s frightening to think that you might not know something, but more frightening to think that, by and large, the world is run by people who have faith that they know exactly what’s going on.

• Some forecasters may turn out to be correct at these pivotal moments, suggesting that it’s possible to correctly forecast key events, but it’s unlikely to be the same people consistently.• The sum of this discussion suggests that, on balance, forecasts are of very little value.

The best opportunities are usually found among things most others won’t do.

The Most Important Th ing Is . . . 
Finding Bargains

value investing and growth investing. In a nutshell, value investors aim to come up with a security’s current intrinsic value and buy when the price is lower, and growth investors try to find securities whose value will increase rapidly in the future.

Value vs growth investing

• The swing back from the extreme is usually more rapid— and thus takes much less time— than the swing to the extreme. (Or as my partner Sheldon Stone likes to say, “The air goes out of the balloon much faster than it went in.”)The occurrence of this pendulum- like pattern in most market phenomena is extremely dependable. But just like the oscillation of cycles, we never know:• how far the pendulum will swing in its arc,• what might cause the swing to stop and turn back,• when this reversal will occur, or• how far it will then swing in the opposite direction.

Thus, it’s not what you buy; it’s what you pay for it. A high- quality asset can constitute a good or bad buy, and a low quality asset can constitute a good or bad buy. Th e tendency to mistake objective merit for investment opportunity, and the failure to distinguish between good assets and good buys, get most investors into trouble.

Good assets and good buys

What are the companies worth? Eventually, this is what it comes down to. It’s not enough to buy a share in a good idea, or even a good business. You must buy it at a reasonable (or, hopefully, a bargain) price.<ul><li>You can’t make a career out of buying from forced sellers and selling to forced buyers; they’re not around all the time, just on rare occasions at the extremes of crises and bubbles.</li><li>Since buying from a forced seller is the best thing in our world, being a forced seller is the worst. This requires both long- term capital and strong psychological resources.</li></ul>

One key question investors should ask is whether they view the future as knowable or unknowable. if they feel they know what the future holds will act assertively: making directional bets, concentrating positions, leveraging holdings, and counting on future growth –doing things that, in the absence of foreknowledge, would increase risk. and, those who feel they don't know what the future holds will act differently: diversifying, hedging, leveraging less , emphasizing value today over growth tomorrow, staying high in the capital structure,and generally girding for a variety of possible outcomes

"Knowable or Unknowable"

<ul><li>story of the gambler who lost regularly. One day he heard about a race with only one horse in it, so he bet the rent money. Halfway around the track, the horse jumped over the fence and ran away. </li></ul>Invariably things can get worse than people expect.

The story to remember about a gambler

<ul><li>Too much capital availability makes money flow to the wrong places.</li><li>When capital goes where it shouldn’t, bad things happen. </li><li>When capital is in oversupply, investors compete for deals by accepting low returns and a slender margin for error.When people want to buy something, their competition takes the form of an auction in which they bid higher and higher. </li><li> Widespread disregard for risk creates great risk.“Nothing can go wrong.”“No price is too high.”“Someone will always pay me more for it.” “If I don’t move quickly, someone else will buy it.”</li><li>Inadequate due diligence leads to investment losses.</li></ul>

What we learn from a crisis---or ought to

Th e process of intelligently building a portfolio consists of buying the best investments, making room for them by selling lesser ones, and staying clear of the worst. Th e raw materials for the pro cess consist of (a) a list of potential investments, (b) estimates of their intrinsic value, (c) a sense for how their prices compare with their intrinsic value,(d) an understanding of the risks involved in each, and of the eff ect their inclusion would have on the portfolio being assembled.

• Rule number one: most things will prove to be cyclical.• Rule number two: some of the greatest opportunities for gain and loss come when other people forget rule number one.

2 rules

<ul><li class="ql-align-justify">As a result, a bargain asset tends to be one that’s highly unpopular. Capital stays away from it or flees, and no one can think of a reason to own it.</li></ul>

The Most Important Thing Is . . . 
Patient Opportunism

The market’s not a very accommodating machine; it won’t provide high returns just because you need them.

Th e Most Important Th ing Is . . . 
Having a Sense for Where We Stand

• We have to practice defensive investing, since many of the outcomes are likely to go against us. It’s more important to ensure survival under negative outcomes than it is to guarantee maximum returns under favorable ones.• To improve our chances of success, we have to emphasize acting contrary to the herd when it’s at extremes, being aggressive when the mar￾ket is low and cautious when it’s high.• Given the highly indeterminate nature of outcomes, we must view strategies and their results— both good and bad— with suspicion until proved out over a large number of trials.

The performance of investors who add value is asymmetrical. The percentage of the market’s gain they capture is higher than the percentage of loss they suffer. . . . Only skill can be counted on to add more in propitious environments than it costs in hostile ones. This is the investment asymmetry we seek.

The Most Important Thing Is . . . 
Adding Value

• The first, when a few forward- looking people begin to believe things will get better• The second, when most investors realize improvement is actually taking place• The third, when everyone concludes things will get better foreverWhy would anyone waste time trying for a better description? This one says it all. It’s essential that we grasp its significance.The market has a mind of its own, and it’s changes in valuation parameters, caused primarily by changes in investor psychology, that account for most short- term changes in security prices. Th is psychology, too, moves like a pendulum.

The three stages of bull market

In Berkshire Hathaway’s 1997 Annual Report, Buff ett talked about Ted Williams— the “Splendid Splinter”— one of the greatest hitters in history. A factor that contributed to his success was his intensive study of his own game. By breaking down the strike zone into 77 baseball- sized “cells” and charting his results at the plate, he learned that his batting average was much better when he went after only pitches in his “sweet spot.” Of course, even with that knowledge, he couldn’t wait all day for the perfect pitch; if he let three strikes go by without swinging, he’d be called out.

Warren buffet's basketball theory

• Little known and not fully understood;• Fundamentally questionable on the surface;• Controversial, unseemly or scary;• Deemed inappropriate for “respectable” portfolios;• unappreciated, unpop u lar and unloved;• Trailing a record of poor returns; and• recently the subject of disinvestment, not accumulation.

Our goal is to find underpriced assets. Where should we look for them?

The image here is of the efficient- market- believing fi nance professor who takes a walk with a student.“Isn’t that a $10 bill lying on the ground?” asks the student.“No, it can’t be a $10 bill,” answers the professor. “If it were, someone would have picked it up by now.”The professor walks away, and the student picks it up and has a beer.

Believer vs Non believers of EMH

The Most Important Thing Is . . . 
Avoiding Pitfalls

<ul><li>In heady times, capital is devoted to innovative investments, many of which fail the test of time. </li><li>Hidden fault lines running through portfolios can make the prices of seemingly unrelated assets move in tandem. </li><li>Psychological and technical factors can swamp fundamentals</li><li>Markets change, invalidating models.</li><li>Leverage magnifies outcomes but doesn’t add value. </li><li> Excesses correct. When investor psychology is extremely rosy and markets are “priced for perfection”— based on an assumption that things will always be good— the scene is set for capital destruction. </li></ul>

When things are going well and prices are high, investors rush to buy, forgetting all prudence. Then, when there’s chaos all around and assets are on the bargain counter, they lose all willingness to bear risk and rush to sell. And it will ever be so.

The Most Important Thing Is . . . 
Awareness of the Pendulum

The oscillation of the investor pendulum is very similar in nature to the up- and- down fluctuation of economic and market cycles.• In theory with regard to polarities such as fear and greed, the pendulum should reside mostly at a midpoint between the extremes. But it doesn’t for long.• Primarily because of the workings of investor psychology, it’s usually swinging toward or back from one extreme or the other.

Among the values prized in early Japanese culture was mujo. Mujo was defined classically for me as recognition of “the turning of the wheel of the law,” implying acceptance of the inevitability of change, of rise and fall. . . . In other words, mujo means cycles will rise and fall, things will come and go, and our environment will change in ways beyond our control. Th us we must recognize, accept, cope and respond. Isn’t that the essence of investing?. . . What’s past is past and can’t be undone

Japanese  "MUJO"

So here’s a tip: You’ll do better if you wait for investments to come to you rather than go chasing after them. You tend to get better buys if you select from the list of things sellers are motivated to sell rather than start with a fixed notion as to what you want to own. An opportunist buys things because they’re offered at bargain prices. There’s nothing special about buying when prices aren’t low

Patient opportunism—waiting for bargains is often your best strategy.

• data or calculation error in the analytical pro cess leads to incorrect appraisal of value;• the full range of possibilities or their consequences is underestimated;• greed, fear, envy, ego, suspension of disbelief, conformity or capitulation, or some combination of these, moves to an extreme;• as a result, either risk taking or risk avoidance becomes excessive;• prices diverge signifi cantly from value; and• investors fail to notice this divergence, and perhaps contribute to its furtherance.

The formula for error is simple, but the ways it appears are infi nite— far too many to allow enumeration. Here are the usual

The risk- is- gone myth is one of the most dangerous sources of risk, and a major contributor to any bubble. At the extreme of the pendulum’s upswing, the belief that risk is low and that the investment in question is sure to produce profi ts intoxicates the herd and causes its members to forget caution, worry and fear of loss, and instead to obsess about the risk of missing opportunity.Worry and its relatives, distrust, skepticism and risk aversion, are essential ingredients in a safe financial system.

Worry and its relatives

“Buy low; sell high” is the time- honored dictum, but inves￾tors who are swept up in market cycles too oft en do just the opposite. Th e proper response lies in contrarian behavior: buy when they hate ’em, and sell when they love ’em. “Once- in- a-lifetime”

Buy when they hate

To value investors, an asset isn’t an ephemeral concept you invest in because you think it’s attractive. It’s a tangible object that should have an intrinsic value capable of being ascertained, and if it can be bought below its intrinsic value, you might consider doing so. Thus, intelligent investing has to be built on estimates of intrinsic value. Th ose esti￾mates must be derived rigorously, based on all of the available information.

Value investing

The investment world is not an orderly and logical place where the future can be predicted and specifi c actions always produce specifi c results. The truth is, much in investing is ruled by luck. Some may prefer to call it chance or randomness, and those words do sound more sophisticated than luck.

• We should spend our time trying to fi nd value among the knowable— industries, companies and securities— rather than base our decisions on what we expect from the less- knowable macro world of economies and broad market per for mance.• Given that we don’t know exactly which future will obtain, we have to get value on our side by having a strongly held, analytically derived opinion of it and buying for less when opportunities to do so present themselves.

There are old investors, and there are bold investors, but there are no old bold investors.

The Most Important Thing Is . . . 
Investing Defensively

Charley Ellis took Ramo’s idea a step further, applying it to investments. His views on market efficiency and the high cost of trading led him to conclude that the pursuit of winners in the mainstream stock markets is unlikely to pay off for the investor. Instead, you should try to avoid hitting losers. I found this view of investing absolutely compelling.Defensive investing sounds very erudite, but I can simplify it: Invest scared! Worry about the possibility of loss.

Here α is the symbol for alpha, β stands for beta, and x is the return of the market. Th e market- related return of the portfolio is equal to its beta times the market return, and alpha (skill- related return) is added to arrive at the total return (of course, theory says there’s no such thing as alpha).

y = α + βx

Since the investors of the “I know” school, described in chapter 14, feel it’s possible to know the future, they decide what it will look like, build portfolios designed to maximize returns under that one scenario, and largely disre￾gard the other possibilities. Th e suboptimizers of the “I don’t know” school, on the other hand, put their emphasis on constructing portfolios that will do well in the scenarios they consider likely and not too poorly in the rest.

how the students of i know and i dont school deal with uncertainty

In good years in the market, it’s good enough to be average. Everyone makes money in the good years, and I have yet to hear anyone explain convincingly why it’s important to beat the market when the market does well. No, in the good years average is good enough.There is a time, however, when we consider it essential to beat the market, and that’s in the bad years. Our clients don’t expect to bear the full brunt of market losses when they occur, and neither do we.

Here’s how I describe Oaktree’s per for mance aspirations:

"This is that rarity, a useful book."--Warren Buffett Howard Marks, the chairman and cofounder of Oaktree Capital Management, is renowned for his insightful assessments of market opportunity and risk. After four decades spent ascending to the top of the investment management profession, he is today sought out by the world's leading value investors, and his client memos brim with insightful commentary and a time-tested, fundamental philosophy. Now for the first time, all readers can benefit from Marks's wisdom, concentrated into a single volume that speaks to both the amateur and seasoned investor. Informed by a lifetime of experience and study, The Most Important Thing explains the keys to successful investment and the pitfalls that can destroy capital or ruin a career. Utilizing passages from his memos to illustrate his ideas, Marks teaches by example, detailing the development of an investment philosophy that fully acknowledges the complexities of investing and the perils of the financial world. Brilliantly applying insight to today's volatile markets, Marks offers a volume that is part memoir, part creed, with a number of broad takeaways. Marks expounds on such concepts as "second-level thinking," the price/value relationship, patient opportunism, and defensive investing. Frankly and honestly assessing his own decisions--and occasional missteps--he provides valuable lessons for critical thinking, risk assessment, and investment strategy. Encouraging investors to be "contrarian," Marks wisely judges market cycles and achieves returns through aggressive yet measured action. Which element is the most essential? Successful investing requires thoughtful attention to many separate aspects, and each of Marks's subjects proves to be the most important thing.

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Howard Marks (born Dennis Howard Marks) was a Welsh author, former teacher and drug smuggler who achieved notoriety as an international cannabis smuggler through high-profile court cases, supposed connections with groups such as the CIA, the IRA, MI6, and the Mafia, and his eventual conviction at the hands of the American Drug Enforcement Administration. At the height of his drug career, he was said to have controlled 10% of the world's hashish trade.Marks attended Balliol College, Oxford between 1964 and 1967 to study Natural Science, with a Physics (B.A., Oxon).

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