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ASK 2021 Keynote speech

Howard Marks warns of inflation, higher risk tolerance

By May 12, 2021 (Gmt+09:00)

Howard Marks, co-founder and co-chairman of Oaktree Capital Management, delivers a keynote speech for the ASK Summit 2021
Howard Marks, co-founder and co-chairman of Oaktree Capital Management, delivers a keynote speech for the ASK Summit 2021


Current high asset valuations might be justified by record-low interest rates supported by expansionary fiscal and monetary policies, but investors need to guard against inflation and rising interest rates, said Oaktree Capital Management’s co-founder and co-Chairman Howard Marks.

Plenty of market liquidity has prompted investors' "speculative behavior" in stock markets, in particular, heated bidding for new share issuance even by money-losing companies, and indeed some of them performed strongly on their first day of listing.

But Marks said he would not feel inclined to increase risk in the current market environment, but neither turn too cautious. Insted, he would sit somewhere in the middle.

"The Fed has indicated its intention to keep interest rates low for two or more years. The question is whether they will be able to, and that brings us to the matter of inflation,” the chairman said in a prepared keynote speech for the ASK Conference 2021 hosted by The Korea Economic Daily on May 12.

"There is a threat of increasing inflation and rising interest rates," he said, adding that the Buffett Indicator points to inflationary risk, with the ratio of stock market valuation to GDP at an all-time high.

Additionally, he warned against the prevalence of optimism and risk tolerance in the markets, which resulted in narrower spreads between the returns on risky and safe assets and slashed risk compensation.

On a positive note, the global economy is at the beginning of a prosperity cycle with the COVID-19 vaccinations under way, with the highest personal disposable income in 20 years. An estimated $1.8 trillion in consumers' balance sheets indicates their spending potential.

Reduced political uncertainty, following the US presidential election late last year, adds to the improved outlook for the world's largest economy which is expected to grow 6-7% for the full year of 2021, or even higher, Marks said.

"The Fed will remain accommodating and there is no reason to expect an increase in short-term interest rates anytime soon," he said in the virtual speech.

The Wall Street veteran, however, cautioned against the US government's massive spending plans, stressing the government has yet to specify how to pay for the extra trillion-dollar bills.

"People in the government, who are more in favor of spending, justify their ability to spend by saying according to MMT (modern monetary theory), a country in control of its currency does not have to be concerned about deficits and debt. I think that’s just a theory, unproven."

HEDGING INFLATION

Now that the government is "flooding the economy with additional liquidity" estimated to be roughly $15 trillion, the Oaktree chairman recommends investors brace for lower returns in whatever position.

"Specific to markets today, asset classes are at equilibrium relative to each other in terms of prospective returns. But all prospective returns are low," he noted.

Portfolio managers should be advised against being more aggressive than usual, he said, but also against too much caution. Further, they may need to make allowance for inflation and rising rates.

To hedge inflation, Marks crossed out long-term bonds, but recommended floating rate loans, apartments and other real estate assets, as well as companies with growth potential and pricing power that can perform well in an inflationary environment.

Regarding alternative assets, he said investors will become more dependent on the skills of individual managers in the current low return environment, adding: "There is no magic answer other than superior skill that provides high returns, safely and dependably. That's especially true in the low-interest era."

Oaktree Capital, the largest investor in distressed securities in the world, manages $153 billion in assets as of March 2021. Brookfield Asset Management acquired a majority of Oaktree in 2019.

Write to Chang Jae Yoo at yoocool@hankyung.com

Yeonhee Kim edited this article.

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