• 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.

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

• Most of the time, people predict a future that is a lot like the recent past.• They’re not necessarily wrong: most of the time the future largely is a rerun of the recent past.• On the basis of these two points, it’s possible to conclude that forecasts will prove accurate much of the time: Th ey’ll usually extrapolate recent experience and be right.

we can’t know much about what will happen at those moments when 
knowing would make the biggest difference.

<ul><li class="ql-align-justify">Second-level thinking</li><li class="ql-align-justify">Understanding market efficiency(and its limitations)</li><li class="ql-align-justify">Value</li><li class="ql-align-justify">The relationship between price and value</li><li class="ql-align-justify">understanding risk</li><li class="ql-align-justify">recognizing risk </li><li class="ql-align-justify">controlling risk </li><li class="ql-align-justify">being attentive to cycles</li><li class="ql-align-justify">awareness of the pendulum</li><li class="ql-align-justify">combating negative influences</li><li class="ql-align-justify">contrarianism</li><li class="ql-align-justify">Finding bargains</li><li class="ql-align-justify">pateint opportunism </li><li class="ql-align-justify">knowing what you dont know </li><li class="ql-align-justify">having sense for where we stand </li><li class="ql-align-justify">appreciating the role of luck</li><li class="ql-align-justify">investing defensively </li><li class="ql-align-justify">Avoiding pitfalls</li><li class="ql-align-justify">adding value </li></ul>

The  most important thing is.....

<ul><li>The more we concentrate on smaller- picture things, the more it’s possible to gain a knowledge advantage. With hard work and skill, we can consistently know more than the next person about individual companies and securities, but that’s much less likely with regard to markets and economies. Thus, I suggest people try to “know the knowable.”</li><li>Investors should make an effort to figure out where they stand at a moment in time in terms of cycles and pendulums. That won’t render the future twists and turns knowable, but it can help one prepare for likely developments.</li></ul>

The Most Important Thing Is . . . 
Knowing What You Don’t Know

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.

• Losses cause lenders to become discouraged and shy away.• Risk averseness rises, and along with it, interest rates, credit restrictions and covenant requirements.• Less capital is made available— and at the trough of the cycle, only to the most qualifi ed of borrowers, if anyone.• Companies become starved for capital. Borrowers are unable to roll over their debts, leading to defaults and bankruptcies.• This pro cess contributes to and reinforces the economic contraction.We conclude that most of the time, the future will look a lot like the past, with both up cycles and down cycles.

When this point is reached, the up-leg described above— the 
rising part of the cycle— is reversed.

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

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.

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

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

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.

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.

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.

Everything should be made simple as possible, but not simpler

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.

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

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

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.

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

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

<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

<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.

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 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.

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"

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

Great investing requires both generating returns and controlling risk. And recognizing risk is an absolute prerequisite for controlling it.Risk means uncertainty about which outcome will occur and about the possibility of loss when the unfavorable ones do. The next important step is to describe the process through which risk can be recognized for what it is.

“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>

• between euphoria and depression,• between celebrating positive developments and obsessing over negatives, and thus• between overpriced and underpriced.This oscillation is one of the most dependable features of the investment world, and investor psychology seems to spend much more time at the extremes than it does at a “happy medium.”

Investment markets follow a pendulum- like swing:

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 important thing here is the realization that risk may have been present even though loss didn’t occur. Th erefore, the absence of loss does not necessarily mean the portfolio was safely constructed.Reality is far more vicious than Russian roulette.

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

My belief is that because the system is now more stable, we’ll make it less stable through more leverage, more risk taking.                                                                                            MYRON SCHOLES

Recognizing "RISK"

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.

• 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.

The most important upshot from the efficient market hypothesis is its conclusion that “you can’t beat the market.” One of the greatest ramifi cations of the Chicago theory has been the development of passive investment vehicles known as index funds.According to investment theory, people are risk-averse by nature, meaning that in general they’d rather bear less risk than more.For them to make riskier investments, they have to be induced through the promise of higher returns.“The higher return is explained by hidden risk.”

Index funds and risk

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

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

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

• 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

• 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

"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

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!

• 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">There are many participants in the markets, and they share roughly equal access to all relevant information. They are intelligent, objective, highly motivated and hardworking. Their analytical models are widely known and employed.</li><li class="ql-align-justify">Thus, market prices represent accurate estimates of assets’ intrinsic value, and no participant can consistently identify and profit from instances when they are wrong.</li></ul>

Efficient market hypothesis

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>

Second-Level Thinker take a great many things into account:<ol><li class="ql-align-justify">What is the range of likely future outcome?</li><li class="ql-align-justify">Which outcome do i think will occur?</li><li class="ql-align-justify">What's the probability I'm right?</li><li class="ql-align-justify">What does the consensus think?</li><li class="ql-align-justify">How does my expectation differ from the concensus?</li><li class="ql-align-justify">How does the current price for the asset comporr with the consensus view of the future, and with mine?</li><li class="ql-align-justify">Is the consensus psychology that's incorporated in the price too bullish or bearish?</li><li class="ql-align-justify">What will happen to the asset's price if the consensus turns out be right, and what if i'm right?</li></ol>

<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

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

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.

• 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.

• 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.

<ul><li> Market extremes represent infl ection points. Th ese occur when bullishness or bearishness reaches a maximum. Figuratively speaking, a top occurs when the last person who will become a buyer does so. Since every buyer has joined the bullish herd by the time the top is reached, bullish￾ness can go no further and the market is as high as it can go. Buying or holding is dangerous.</li></ul>• Since there’s no one left to turn bullish, the market stops going up. And if on the next day one person switches from buyer to seller, it will start to go down.

• 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.

If we’re consistently able to decline less when the market declines and also participate fully when the market rises, this can be attributable to only one thing: alpha, or skill.That’s an example of value- added investing, and if demonstrated over a period of decades, it has to come from investment skill.

• 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

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

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.

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

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>

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.

We have two classes of forecasters: Those who don’t know— and those who don’t know they don’t know.

• 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.

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"

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

The Most Important Th ing Is . . . 
Finding Bargains

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.

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

<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.

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"

• 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:

There’s only one way to describe most investors: trend followers. Superior investors are the exact opposite. Superior investing, as I hope I’ve convinced you by now, requires second- level thinking a way of thinking that’s different from that of others, more complex and more insightful. By definition, most of the crowd can’t share it. Thus, the judgments of the crowd can’t hold the key to success. Rather, trend, consensus view, is something to game against, and the consensus portfolio is one to diverge from.just do the opposite.

The Most Important Thing Is . . . 
Contrarianism

<ul><li>Since the efficient-market pro cess of setting fair prices requires the involvement of people who are analytical and objective, bargains usually are based on irrationality or incomplete understanding. Thus, bargains are often created when investors either fail to consider an asset fairly, or fail to look beneath the surface to understand it thoroughly, or fail to overcome some non- value- based tradition, bias or stricture.</li><li>Usually its price has been falling, making the first- level thinker ask, “Who would want to own that?”</li></ul>

• 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

An investor needs do very few things right as long as he avoids big mistakes.

<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>

• 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

Second-level thinking says, "I think the company's earnings will fall less than people expect, and the pleasant surprise will lift the stock; Buy."First-level-thinking is simplistic and superficial; and just about everyone can do it(a bad sign for anything involving an attempt at superiority.) All the first-level thinker needs is an opinion about the future, as in " The outlook for the company is favorable, meaning the stock will go up".

“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.

• Thus, it’s essential to have a large number of observations— lots of years of data— before judging a given manager’s abilityTaleb’s idea of “alternative histories”— the other things that reasonably could have happened— is a fascinating concept, and one that is particu￾larly relevant to investing.

• 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.

"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).

Howard Marks

The Most Important Thing

So the choice is simple: try to maximize returns through aggressive tactics, or build in protection through margin for error. You can’t have both in full mea sure. Will it be offense, defense or a mix of the two (and, if so, in what proportions)? Of the two ways to perform as an investor— racking up exceptional gains and avoiding losses— I believe the latter is the more dependable. A conscious balance must be struck between striving for return and limiting risk— between offense and defense.  “if we avoid the losers, the winners will take care of themselves.”