Howard Marks, author of The Most Important Thing: Uncommon Sense for the Thoughtful Investor  is the Chairman of the ultra successful Oaktree Capital Management firm.

Marks was one of the original founders and is famous for his “memos to Oaktree clients” which he uses liberally throughout the book to add value to his “lessons”.

Howard Marks, educated at the Wharton School and University of Chicago (MBA), delivers his commentary in a style that has been described as “insightful, direct, homespun, expert and sharply pointed”.

His objective in writing The Most Important Thing was to provide a book that would lay out his investment philosophy in a manner that would be beneficial to the average investor. I believe he was extremely successful at achieving his objective.

His approach is to lay out The Most Important Thing Is….. in 20 Chapters. Each is a building block to successful investing. Together they create a “solid wall” in which each piece is essential “guideposts” that keep investors focused on the most important things for successful portfolio management.

Even though value investing is about numbers, this book has no numbers. This book is about psychology and thinking differently about value portfolio management.

I highly recommend this book to every investor. It’s easy to read and easy to understand. It can change the way you think about investing. I’m convinced the more it changes your thinking, the more successful you will become.

Summary of The Most Important Thing by Howard Marks

Chapter 1

“No rule always works. The environment isn’t controllable, the circumstances rarely repeat exactly. Psychology plays a major role in markets, and because it’s highly variable, cause-and-effect relationships aren’t reliable.”

This most important thing is second level thinking. You have to think beyond the obvious (first level thinking). The first level thinker sees favorable circumstances and decides to buy. The second level thinker sees that the investment is over hyped and too expensive to provide a margin of safety.

The first level thinker sees unfavorable circumstances and decides to sell. The second level thinker sees that investors have panicked and driven the price to bargain levels and buys.

Chapter 2

“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.”

The most important thing is understanding market efficiency and its limitations. While it is true that many markets are fairly efficient most of the time, they are not always efficient. Investors allow greed, fear, and other emotions to defeat their objectivity. This leads the way to significant mistakes.

Investors who choose to believe the market can’t be beat leave the inefficiencies for those willing to be second level thinkers. Understanding market inefficiencies is important so that you recognize opportunities that can be exploited for profit.

Chapter 3

“Investors with no knowledge of (or concern for) profits, dividends, valuation or the conduct of business simply cannot possess the resolve needed to do the right thing at the right time.”

The most important thing is value. Marks talks about the difference between growth and value. Growth is a bet on the future, an uncertain future. Therefore you may be paying for something that does not materialize.

Value is more consistent. Paying less than something is really worth today is less of a risk than guessing what will happen in the future. The best value is when you can buy growth at a value price, but that may not always be available.

Chapter 4

“No asset is so good that it can’t become a bad investment if bought at too high a price. And there are few assets so bad that they can’t be a good investment when bought cheap enough.”

The most important thing is the relationship between price and value. Investors psychology can cause a stock price to be mis-priced. In the short run, investing is more like a popularity contest.

The most dangerous time to buy an investment is at the peak of its popularity. At that time, all the positive data and assumptions are reflected in the price. Everyone that is going to buy has already bought.

The optimal time to buy an investment is when no one else wants it. At that point, all the negative data and assumptions are reflected in the price. Everyone that is going to sell has already sold.

Buying at a price below the real worth of an investment is the most reliable approach to making an investment profit.

Chapter 5

“The possibility of permanent loss is the risk I worry about.”

The most important thing is understanding risk. There are several misconceptions about risk: Riskier assets don’t necessarily provide higher rates of return or they wouldn’t be riskier. Risk doesn’t come from weak fundamentals because almost any investment, bought at the right price, can be a profitable investment. Risk does not come from volatility; risk comes from how an investor reacts to volatility.

Risk can be greatly reduced by 1) making an accurate assessment of the real value of an investment and 2) making sound decisions based on the relationship of the price to the value. Investments that are overpriced should be avoided or sold. Investments that are underpriced are candidates for purchase.

Chapter 6

“The degree of risk present in a market derives from the behavior of the participants, not the securities, strategies, and institutions.”

The most important thing is recognizing risk. Risk is actually highest when everyone believes risk is low. This is because investors bid up the price of the asset to the point it really is risky. At a high price favorable outcomes have low expected returns and unfavorable outcomes can result in large losses.

Risk is lowest when everyone believes that risk is high. This is because investors have reduced the price to the point it’s no longer risky. At a low price favorable outcomes have high expected returns and unfavorable outcomes result in smaller losses.

Investors should recognize risk comes with price; not the quality of an investment. “High quality assets can be risky, and low quality assets can be safe. It’s just a matter of the price paid for them.”

Chapter 7

“The road to long-term investment success runs through risk control more than aggressiveness. Skillful risk control is the mark of the superior investor.”

The most important thing is controlling risk. Over an entire investment career, the amount and size of investment losses will most likely have more to do with returns than the magnitude of winners.

Controlling risk is not risk avoidance. The stock market will have more good years than bad years. The fact that the benefits of controlling risk only come in the form of losses that don’t happen, make it hard to measure and easy to succumb to ignoring. It is just at that time that risk meets adversity and punishes you. Controlling risk is a permanent task.

Chapter 8

“Cycles will never stop occurring. If there were such a thing as a completely efficient market, and people really made decisions in a calculating and unemotional manner, perhaps cycles would be banished. But that’ll never be the case.”

The most important thing is being attentive to cycles. Cycles have a way of being self-correcting. Reversals don’t necessarily need outside events. They reverse on their own. Success creates the seeds of failure, and failure creates the seeds of success.

Periodically investors decide that a trend will never end. When times are good they conclude the trend will continue upward forever. When times are bad they talk about vicious cycles and “self-feeding” developments that will not end.

Don’t assume trends will continue forever. Instead be aware of possible major turning points.

Chapter 9

“When investors in general are too risk-tolerant, security prices can embody more risk than they do return. When investors are too risk-adverse, prices can offer more return than risk.”

The most important thing is awareness of the pendulum. Markets

fluctuate between euphoria and desperation. The “happy medium” is the average. But in reality the market spends very little time at the average. The pendulum swings back and forth, creating opportunities for the astute investor who is aware of the swings (and extremes) in investor sentiment.

Chapter 10

“The biggest investing errors come not from factors that are informational or analytical, but from those that are psychological.”

The most important thing is combating negative influences. Greed, fear, the tendency to dismiss logic, the tendency to conform, envy, and ego are psychological forces that can be negative influences.

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