#42 Reflections on Investing : The Howard Marks Checklist Revisted

In October of 2021 we reviewed the Howard Marks Checklist from Mr. Marks' book "Mastering the Market Cycle." Since then conditions in the market have changed dramatically so we felt it was time to revisit Mr. Marks' checklist.

Welcome back to "Reflections on Investing with the Cornell Capital Group." Too often, investing pundits make forecasts, do analyses, and then time moves on, and they forget about them. They make more forecasts and do more analyses and never go back to analyze what they said a year or so ago. Well, we thought we'd break that pattern. In October 2021, we did a Reflections on the Howard Marks Market checklist from his book on Market cycles. Here's what we said: "Put it all together. Every single item checks on the left side of the list. Despite the choppiness in the last week or two, these are still very frothy markets, according to Mr. Mark's checklist."

Well, today, we've got that checklist back. We thought we would compare what we believed were the frothy markets then with the conditions now. Here on my iPad, I have the same checklist. Let's just go down it:

The first item is recent performance. In 2021, that was very strong. In fact, we said, and no better place to look for that than the CCG Unprofitable Index, which shows that in the period since January 2020, the overall market is up about 33 percent. But risky securities such as the unprofitables are up 250 percent. So, on our checklist, the market is clearly strong. Today, the situation is dramatically different. The CCG Unprofitables that had far outperformed the S&P 500 through last October have now crashed, and over the full period, their return is significantly less than the S&P 500 and, in many cases, significantly negative. So, recent performance is now weak.

Asset prices, well, they're a lot lower than they were. But we felt that was frothy. A couple of weeks ago, we did a Reflections on valuing the market using Professor Aswath Damodaran’s approach, and we thought the market looked about fairly valued by that measure. So, let's put a little line here. Certainly, no longer high but maybe not low.

Stock Market Outlook: That was very positive in October 2021. We didn't think it should be because the markets were so frothy. But frothy markets tend to go along with good sentiment. Now, the sentiment has definitely changed. I would say yes, it's probably negative. Not as negative as it was positive back then, but certainly negative. Back then, we said the markets were crowded. Mr. Mark says, on the other side, they're starved for attention. That's probably too strong. I'll put a line there. Perhaps the biggest change has been interest rates. Back in October 2021, we stressed that low interest rates were a big part of the frothy market. Well, today, interest rates have changed dramatically.

So, if we go back and look at what we said then, what about interest rates? Well, you have to be pretty much living under an investment rock to not know that interest rates are low. Every day, we hear something about the Fed and whether it's going to taper and interest rates are going to rise and so forth. But now they're low. You can see the difference. Rates are in relative terms particularly high. Lenders were more eager than reticent, maybe too strong now, but they're by no means as anxious to lend. With higher—well, I should be careful with that. It takes two to make a lending transaction, the borrower and the lender. The lenders are willing to lend now if they can get a high enough interest rate, but with the high interest rates, the borrowers become more reticent. So, let's put a line there.

Capital market conditions were loose. Very loose back then. The Fed was pouring liquidity into the economy. The Fed has totally changed its tune, and capital market conditions are tight. Capital was plentiful then; it scarce now. It's not scarce, but the price has gone up. So, I'll put a line there. Terms were easy then; they're much more restrictive now. So, I'll circle that one. Credit spreads were narrow then, they're much wider now, as evidenced by. So, I'm going to put wide with that one, though not as wide as they were in the crash of 2008.

Investors are certainly more pessimistic now, and where they were eager to buy back in October, this says uninterested in buying. I would say that's too strong, but skeptical about buying in October, they were happy to hold stocks. They aren't rushing toward the exits now, but they're very nervous. So, I'll put a line there. Back then, new funds were starting all the time, SPACs were the hot ticket. Now, this says only the best can raise money. That's probably too strong. So, I'll put a line there. Back then, the popular quality was aggressiveness. Stocks are going to the moon. Now, there's a lot more caution and discipline. So, I'll circle that one.

The main concern back then was buying too much, that is, from our point of view, were people buying too much? Are they now buying too little? Or are things like Google and Facebook actually underpriced? Well, maybe, so I'll put a line there. Back then, they were taking too much risk. Now, we think, well, I wouldn't say they're taking too little, but certainly a lot less. So, if we compare the whole checklist, back then, everything was positive, and we said the markets were very frothy and warned about a potential downturn. Now, the situation has changed dramatically. Our Damodaran analysis said the market was approximately properly priced, but there's an awful lot of circles on the Howard Marks checklist, and as Mr. Marks says, markets don't spend a lot of time being fair. They seem to spend more time being overpriced or underpriced, and a swing to underpricing is something that cannot be ruled out.

So, at the Cornell Capital Group right now, while we think stocks are close to fairly priced, we are still being very cautious. This has been Reflections on Investing. Thanks for joining us.