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stock that everyone loves on your watch list. This is probably the worst deal on the market right now. Howard Marks, co-founder of Oak Tree Capital, managed $120 billion in assets. And he built this wealth by buying things that made other investors physically uncomfortable. His one- line test, if everyone loves it , how can you get it at a cheap price?
The next time the market is falling sharply and your finger is on the sell button, doing what feels comfortable could cost you dearly. Marx is now going to explain the art of carefully catching falling knives. They describe it this way. If you want to be a rational investor , you don't anticipate changes in popularity.
You say, "I think this company has an intrinsic value of 100. It's selling for 80. I'd like to buy it and hold it until the value reaches 100. Watch, and if you're right you make money." It is important to be correct. But if you're a value investor and you look at something and say, "I think this is worth 100." " It's selling for 80.
" And then something bad happens and the price starts to fall. 80, 75, 70, 65, 60, 55, 50, then this is a falling knife. But then you say it's great. It's like something you find in department stores. It is on sale now. Now I really want to buy more. Do you understand? And that's the key to making big money and catching falling knives.
You have to buy things that no one else likes. Things that no one else likes are more likely to be cheap. Like you were talking about micro caps earlier. And your theory is that no one likes them because they are ignored. They are too small to attract attention. And so you buy them and you're happy to buy them because no one else wants to buy them.
And if no one else wants to buy them, the price is probably low. But if you buy the things that everyone likes , everyone feels good about, everyone is optimistic about, the things that are on the front page of the newspaper every day because they are doing well, what reason can you have to think that you are getting a good deal ?
If everyone loves it , how can you get it at a cheap price? So , that's why I say our job is to carefully catch falling knives. You don't want to do it without caution , but I think you do n't want to back out just because they're scary. The real deals are hidden in the unsavory things. If everyone is optimistic and moving forward , the price is probably high, not cheap.
So, why would you expect a cheap deal from a stock that is already a market favorite? Think of it like going to a department store, which is what Marx himself uses. A stock may be worth $100, but it is selling for $80. Now, bad news comes and the price drops to 50. Most investors run for the exit. But if your search says it's still $100 , then this drop is like a 50% off sale where no one else is.
Instead of a 25% profit from $80 , you're looking at a 50 to 100% profit. Same company, same real price. The only thing that had changed was everyone else's fear. The reality is this. By the time a stock feels safe again , a lot of profit has been lost. In early 2020, the S&P 500 fell by a third during a market shock.
Then it rose 20% in just 15 business days. That surge came when most people were scared, watching the news and waiting for some sign that never came. So, how do you overcome that fear ? It starts with accepting that it is natural to be afraid. Marx is telling us that we need the right kind of fear, not mindless panic.
Prudent caution. You catch the falling knife very carefully. You do your homework on the actual price so that you know whether the price drop is an overreaction or a real warning. You manage your risk. Maybe you can buy in installments. A little at 70 , more at 60, more at 50, not all at once. That way, if you're quick and it keeps falling , you're still in the game.
The courage to buy when others won't comes from preparation and analysis. So, what does such a bold investment look like when billions of dollars are at stake ? Marcus has a war story, and it's a big one. Fourth quarter of 2008, the peak of the global financial crisis. Lehman Brothers had just collapsed.
The markets were completely collapsing. Howard Marks and his team had raised a massive $11 billion opportunity fund in anticipation of a recession. That moment had come. Fear was everywhere. Will they actually use that money or will they back down like the rest ? I think buying during the global financial crisis during the fourth quarter of 2008 , we were worried about the market.
So , we raised a lot of money for our Opportunity Fund 7B. Before '07, the largest crisis fund in history was $2.5 billion. And that was our 2001 fund, 2.5 billion. So in 07-08 we raised $11 billion. It was four and a half times larger than the largest fund in history, because we felt a big opportunity was coming and we had money that was mostly sitting unspent.
I think the day Lehman Brothers went bankrupt, our fund was only 12% invested. So we had 11 billion dollars. Now 10 billion. Will you spend it or not? The world was very scary. There was a thing about falling knives. Most people were worried that the global financial system would collapse and they were not wrong because in recent months Merrill Lynch, Bear Stearns, Wachovia National Bank, Washington Mutual, AIG, and now Lehman had all sunk or had to be rescued.
And if this destructive cycle had not stopped, it was likely that Morgan Stanley would have been next because these companies were heavily in debt and interconnected. Each was dependent on the other. Like falling dominoes, right ? But we concluded that we would have to spend money. And my partner Bruce Karsh, who runs that fund , started buying probably two to three business days after Lehman's bankruptcy and invested an average of $450 million per week for the next 15 weeks.
That is, 7 billion dollars were invested in one quarter. Can we stop for a second and see what happened in that room? Imagine Bruce Karsh, Marks' partner, sitting at his desk two or three days after Lehman's bankruptcy, during the worst financial crisis since the Great Depression, buying up $450 million worth of declining assets , and then doing so the next week and the week after that, for 15 consecutive weeks.
They put $7 billion into falling investments during that most terrifying quarter. Just thinking about it makes my hair stand on end. People really thought that every bank could fail. The stock market was down 40%. The credit market had completely frozen. No one was willing to lend money to anyone. Marx had raised that 11 billion dollars for this very situation.
But using it was a big risk, unlike any textbook lesson. He actually asked that billion-dollar question out loud. We have 10 billion dollars. Will you spend it or not? Do you trust your analysis enough to buy when the world appears to be ending? Look what the statistics showed later. In 2008 , junk bonds fell 26% because everyone was panicking.
In 2009, the same bonds rose 57%. An investor who bought during the time of greatest fear doubled his money in a year. Bank of America stock fell to just $3 in March 2009 and then over the next decade it delivered a total return of 734%. 734%. Only those brave enough to buy when everyone else was dumping shares as if they were radioactive could claim this prize.
Think about what this means for your retirement account. If you had $50,000 in an index fund and you had added just $5,000 at the March 2009 low, that $5,000 would have grown more than the original $50,000 over the same period. Money invested in terror is many times more valuable than money invested in peacetime.
Marcus and KH divided their $7 billion among several fallen opportunities. Those they predicted would survive. Diversity and deep research were their safety gear, in case those knives got too sharp and went to zero. Now, of course, you and I are n't investing $7 billion during a recession , but the principle applies perfectly.
The next time the market drops , ask yourself, do I have a shopping list of solid companies that I would like to buy at the right price? Have I done the deep work to know whether what is scaring the market is true or just short- term noise? It will never seem easy. In March 2020, many people knew this was the opportunity of a lifetime and yet they couldn't take the step.
I admit, I almost couldn't do it either. My heart was beating fast. My palms were actually sweating when I bought shares of my favorite companies on one of those scary days. Part of me was sure I was making a big mistake. But looking back, I'm glad I did. That purchase is now very profitable. However, let me emphasize, and this is important, this is not blind risk-taking.
As the name suggests, falling knives can be dangerous. Lehman Brothers never came back. Investors who bought Lehman stock when it fell to $20, thinking it was cheap, were completely ruined. So, how do we avoid catching a falling knife by mistake? Focus on intrinsic value and margin of safety. If a company is falling because it is fundamentally broken, manipulating its accounts, drowning in debt with no way out , then it is a value trap, a knife without a handle.
But if it is falling due to temporary chaos while its core business is still solid, then that is a completely different situation. The key is to work to estimate what something is actually worth and have the patience and cash to wait out the panicked price. Howard Marks teaches us that better investing is not about IQ or forecasting.
It's about going against your inner mind in the most difficult moment. The next time you see a red flood on your screen, remember that question. If everyone likes it , how can it be a cheap deal ? The second aspect is equally true. If everyone hates it, can it really be a cheap deal ? As Marx proved in 2008 , by the time things improve and everything seems safe, the easy money has been made by those who stepped into the turmoil.
If you want to continue building that contrarian mindset , watch this video where billionaire investor Chris Hone, often called the British Warren Buffett , reveals his secrets to beating the market. I will meet you there.
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