Oaktree Capital's Howard Marks: Stock market is in the early stages of a bubble.

Oaktree Capital's Howard Marks recently stated that the US stock market may be in the early stages of a bubble. In an interview, he emphasized that while it is not yet time to sound the alarm, the fact that stocks are expensive should not be ignored. To address this situation, Marks suggests adding some defensive elements to investment portfolios, with investing in bonds rather than stocks being one approach. The following are excerpts from the interview: Host: I'd like to start with a core issue you've raised yourself: in the face of negative developments, why are asset prices so strong? Howard, could you share your thoughts on this? Howard: I'm glad to be here with you this morning. Of course, as implied by the quote on the screen earlier, these are just feelings and opinions, not facts. But indeed, stocks seem expensive relative to what I consider fundamentals, or what you might call reality. I think the main reason is that the market hasn't experienced a serious correction in 16 years, so people are no longer used to thinking about corrections. I've been thinking about what investors' biggest mistake is, and I've concluded that it's assuming that today's situation will last forever, that what has happened will continue to happen forever. However, the likelihood of mean reversion is much higher, so I just feel that as stock investors, the effect is very good, leverage works even better, and concentrating investments in fewer stocks has also been successful. Investors are naturally optimistic, and it's hard for that optimism to fade, and I think market volatility is mainly driven by psychological fluctuations. People go from neutral to liking stocks, to really liking them, to loving them, to loving them too much, and when this continuity exists, bubbles can form, and we may be in the early stages of such a bubble. Host: When you talk about "liking," Howard, maybe people have gone a little too far in liking these assets, could you recall a time when you saw a similar situation and felt that the opportunity to purchase these assets at current valuations may not be as good? Is there a period that reminds you of the current situation? Howard: Well, Lisa, I think the last time could be around 1997, when the market was a bit in love with tech stocks, the market was booming, people weren't worried about valuation levels, they were extremely optimistic about the opportunities in the internet. Alan Greenspan famously warned of the possibility of an "irrational exuberance." I choose 1997 because even though Greenspan was concerned about this "exuberance," the market continued to rise for another two and a half to three years. So please remember that when I say we are in the early stages, we have not reached a critical, crazy valuation yet, and I certainly have not sounded the alarm as you mentioned on your screen, there is no reason to believe there will be a correction soon, but the point is, things are expensive, they may get even more expensive, but the fact that they are expensive should not be ignored. Host: Howard, I think many people talking about echoes from the late 90s have pointed out that the tech sector was the most overvalued. But what I found very interesting in your memo is that this was not your view, it was not your major concern. When people were hoping for strong CKH HOLDINGS inflation backdrop, why isn't tech your focus this time? Howard: Well, tech has certainly created a halo effect for the market, many people cite the so-called "fabulous seven" stocks, like Amazon and Google, which have made a huge contribution to the market's rise, they are not just seven stocks, their dollar earnings account for more than half of the total earnings of all 500 stocks in the S&P 500 index, just seven stocks account for more than half of the 500 stocks. But they are great companies, their valuations are high, I don't think I can say these valuations are too high. But the valuations of the other 493 stocks are also quite high, though not as high as the "fabulous seven", no one says they are of equal quality to those companies, and their valuations are also quite high relative to history. I think applying high valuations to more ordinary companies is more concerning than applying them to exceptional companies. Host: Howard, there's a quote in your memo that I really like: "Those who know only one side of the argument know very little about it." After reading the rest of the memo, there was a conclusion about credit. I just wanted to ask, sir, does your focus on stocks provide you with a broader perspective on the current value of credit markets? Howard: Well, as John Stuart Mill said in 1859 (I believe it was 1859), you must know all aspects of the story to understand if your argument stands. And I've cited reasons for the bullish view, explaining why the market is not overvalued, I think that's part of the job. But as you said, my conclusion is, as I mentioned before, I have not sounded the alarm, but I do think it's time to be a little cautious now. And, you know, it's a bit like what we say on Wall Street, "the fruit seller praising his own melons," but you know, what I do, what Oaktree Capital does, is mainly what we call "credit," that is, buying company debt. And debt is inherently more defensive than stocks, you have a payment commitment, you know what your return will be if they pay interest and principal as promised, and most of the time they do pay. So I just think it's time to add some defensive elements to your investment portfolio now, and investing in credit rather than stocks is one way to do that. Host: Howard, if credit spreads are the tightest they have been since 1998, is it still considered defensive? I see investment-grade credit spreads, which are considered a more defensive part of the credit market. I mean, does this question the significance of it as a defensive asset, as valuations there are also quite high? Howard: Well, first of all, Lisa, what you're referring to, whether it's debt, fixed income, bonds, or what I call credit, all these different terms refer to the same thing, they are fundamentally different from stocks because you do have a contractually agreed-upon rate of return. You could say that the contractually agreed-upon rate of return is not as high historically, or that it doesn't offer as high a credit risk premium relative to treasury bonds as historically, but you can't say they don't promise a return of 7% or 12%. An investment promising a 7% or 12% return, you'll pay some fees, occasionally encounter credit losses, but I think it's highly likely to provide around a 6% return over the next 10 years. An investment promising close to a 6% return in the next 10 years, I think is more defensive than holding stocks in an overvalued market. That's the key. And as you mentioned, credit spreads are the tightest they have been since 1998. If you look at the situation in 1998, if you had invested in a high-yield bond portfolio then, how would you have performed over the past 17 years (27 years)? I think you would have performed quite well, my view is that it's very likely to perform well, while stocks in an overvalued market are likely to perform poorly. Host: Is the US still the focus for defensive investments? Howard: Well, as I mentioned in the memo, I still think the US is the best place to invest in the world. The qualities that make the US exceptional - innovation, free markets, rule of law, capital markets, vitality, great companies - they are all still there. But as I said in the memo, we are the best place, but perhaps not quite as good as before. The world may see the US as slightly less good than before, I can't argue with that. I mean, fundamentally, as an investment environment, I think things have deteriorated a little. Host: Are there any places where you see more opportunities now, based solely on valuations and perhaps on the improvement of aspects like contract law and other factors that truly lead to a robust investment backdrop? Howard: Well, as I said, I still think we are the best place to invest in the world. And, you know, we're a good car at a high price. You could buy some cheaper cars elsewhere in the world that aren't as good as us. What do you prefer? A slightly cheaper ordinary car, or a more expensive good car? So, you know, there's no place else in the world with our vitality. And, many places in the world are relatively over-regulated compared to the US. But if they're trading at a discount compared to the US, then it makes sense to have some representation in them in your investment portfolio.