<ul><li>The likelihood of permanent capital loss</li><li>Opportunity risk, the likelihood of missing out on potential gains</li></ul>Risk is all about uncertainty. Even though many things can happen, only one will happen.

The Two Risks

The output of an economy is the product of hours worked and output per hour. Thus the long term growth of the economy is determined by fundamental factors like birth rate and the rate of gain in productivity. Long term trends have given the economy and stock market a strong uptrend over several decades:<ul><li>Macro Environment</li><li>Corporate Growth</li><li>The Borrowing Mentality</li><li>Popularization of Investing</li><li>Investor Psychology</li></ul>

The Economics Of Cycles

Three stages of a bull market:<ul><li>A few forward-looking people begin to believe things will get better.</li><li>Most investors realize improvement is taking place.</li><li>Everyone concludes things will get better forever.</li></ul>Three stages of a bear market:<ul><li>A few thoughtful investors recognize that, despite the prevailing bullishness, things won’t always be rosy.</li><li>Most investors realize things are deteriorating.</li><li>Everyone is convinced things can only get worse.</li></ul>

Up And Down

The investor’s goal is to position capital so as to benefit from future development. The Key to accomplishing this goal is:<ul><li>To know where the pendulum of psychology and the cycle in valuation stand in their swings.</li><li>To refuse to buy when too positive psychology and the willingness to assign too high valuations causes prices to soar to peak levels.</li><li>To buy when downcast psychology and the desertion of valuation standards cause panicky investors to create bargains by selling despite the low prices that result.</li></ul>

Coping With Market Cycles

If the market were a disciplined calculator of value-based exclusively on company fundamentals, the price of a security wouldn’t fluctuate much more than the issuer’s current earnings and the outlook for earnings in the future.

The Market Cycle

Superior investing doesn’t come from buying high-quality assets, but from buying when the deal is good, the price is low, the potential return is substantial, and the risk is limited. These conditions are much more the case when the credit markets are in the less euphoric, more stringent part of their cycle. <ul><li>Capital: all the money used to finance a business.</li><li>Credit: the portion of a company’s capital that is made up of debt rather than equity.</li></ul>

The Credit Cycle

<ul><li>Investing is basically “bearing risk in pursuit of profit.”</li><li>The ability to understand, assess, and deal with risk is the mark of the superior investor and an essential requirement for investment success.</li><li>The way investors are collectively viewing risk, and behaving in regard to it, is of overwhelming importance in shaping the investment environment in which we find ourselves. </li><li>The state of the environment is key in determining how we should behave with regard to risk at that point. </li><li>The rational investor is diligent, sceptical, and appropriately risk-averse at all times.</li></ul>

The RIght Attitude Towards Risk

A: Recovery from an excessively depressed lower extreme, toward the midpoint.B: The continued swing past the midpoint, toward an upper extreme or high.C: The attainment of a high.D: The downward correction from the high back toward the midpoint.E: A continuation of the downward movement past the midpoint, toward the new low.F: The reaching of a low.G: Recovery from the low back toward the midpoint.Keep in mind that:<ul><li>Excessive optimism is dangerous.</li><li>Risk aversion is an essential ingredient for the market to be safe.</li></ul>

Cycle Phases

There are six main components (or three pairings) to the formula for investment success:<ul><li>Pair 1: Cycle Positioning and Asset Selection</li><li>Pair 2: Aggressiveness and Defensiveness</li><li>Pair 3: Skill and Luck</li></ul>

The Three Main Pairings

There are three ingredients for success:<ul><li>Aggressiveness</li><li>Timing</li><li>Skill</li></ul>If you have enough aggressiveness at the right time, you don’t need that much skill. Good timing in investing can come from diligently assessing where we are in a cycle, and then doing the right thing as a result.

The Three Ingredients

The mood swings of the securities markets resemble the swing of a pendulum. They swing between the following:<ul><li>Between euphoria and depression</li><li>Between celebrating positive developments and obsessing over negatives</li><li>Between overpriced and under-priced</li><li>Between greed and fear</li><li>Between optimism and pessimism</li><li>Between risk tolerance and risk aversion</li><li>Between urgency to buy and panic to sell</li></ul>

Investor Psychology and Emotion

Central bankers have dual responsibilities that are in opposition to each other:<ul><li>Limit Inflation: which requires restraining the growth of the economy.</li><li>Support Employment: which calls for stimulating economic growth.</li></ul>GovernmentsWhen governments want to stimulate their country’s economy, they can:<ul><li>Cut Taxes</li><li>Increase Government Spending</li><li>Distribute Stimulus Checks</li></ul>When governments want to slow their country’s economy, they can:<ul><li>Increase Taxes</li><li>Decrease Government Spending</li></ul>

The State Involvement: Banks and Government

Investors who disregard where they are in cycles are bound to suffer serious consequences. In order to get the most out of this book, an investor has to learn to recognize cycles, assess them, look for the instructions they imply, and do what they tell him to do.Investors need to study three main areas:<ul><li>Trying to know more than others about the “knowable,” the fundamentals of industries, companies, and securities.</li><li>Being disciplined as to the appropriate price to pay for participation in those fundamentals.</li><li>Understanding the investment environment we are in.</li></ul>

Investors are always in Cycles

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A NEW YORK TIMES, WALL STREET JOURNAL, AND USA TODAY BESTSELLER 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. Confidence about where we are in a cycle comes when you learn the patterns of ups and downs that influence not just economics, markets, and companies, but also human psychology and the investing behaviors that result. If you study past cycles, understand their origins and remain alert for the next one, you will become keenly attuned to the investment environment as it changes. You’ll be aware and prepared while others get blindsided by unexpected events or fall victim to emotions like fear and greed. By following Marks’s insights—drawn in part from his iconic memos over the years to Oaktree’s clients—you can master these recurring patterns to have the opportunity to improve your results.

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A NEW YORK TIMES, WALL STREET JOURNAL, AND USA TODAY BESTSELLER 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. Confidence about where we are in a cycle comes when you learn the patterns of ups and downs that influence not just economics, markets, and companies, but also human psychology and the investing behaviors that result. If you study past cycles, understand their origins and remain alert for the next one, you will become keenly attuned to the investment environment as it changes. You’ll be aware and prepared while others get blindsided by unexpected events or fall victim to emotions like fear and greed. By following Marks’s insights—drawn in part from his iconic memos over the years to Oaktree’s clients—you can master these recurring patterns to have the opportunity to improve your results.

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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