In his book, Mastering The Market Cycle, Howard Marks discusses the one question investors should ask regarding a possible investment. Here’s an excerpt from the book:
My point is that, in a negative environment, excessive risk aversion can cause people to subject investments to unreasonable scrutiny and endlessly negative assumptions (just as they may have performed little or no scrutiny and applied rosy assumptions when they made investments in the preceding heady times).
During panics, people spend 100% of their time making sure there can be no losses . . . at just the time that they should be worrying instead about missing out on great opportunities.
In times of extreme negativism, exaggerated risk aversion is likely to cause prices to already be as low as they can go; further losses to be highly unlikely; and thus the risk of loss to be minimal.
As I’ve indicated earlier, the riskiest thing in the world is the belief that there’s no risk. By the same token, the safest (and most rewarding) time to buy usually comes when everyone is convinced there’s no hope.
If I could ask only one question regarding each investment I had under consideration, it would be simple: How much optimism is factored into the price? A high level of optimism is likely to mean the favorable possible developments have been priced in; the price is high relative to intrinsic value; and there’s little margin for error in case of disappointment.
But if optimism is low or absent, it’s likely that the price is low; expectations are modest; negative surprises are unlikely; and the slightest turn for the better would result in appreciation.
You can find the book here:
Howard Marks – Mastering The Market Cycle
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