(Business Insider) Billionaire investor Howard Marks warned investors in his latest memo to expect the lowest returns in history, and said that the market is vulnerable to "negative surprises."
"In my view, the low interest rates represent the dominant characteristic of the current financial environment, creating the dominant consideration for investors: the lowest prospective returns in history," the co-founder and co-chairman of Oaktree Capital Management wrote.
In his memo titled "Coming Into Focus" released Tuesday, he said that for years he has been describing a vulnerable investment environment with the "lowest prospective returns ever," pro-risk behavior from investors hunting for high returns, excessive asset prices, and an unusually high level of uncertainty.
When the coronavirus pandemic prompted the Federal Reserve to lower interest rates, a policy move Marks viewed as necessary, expected returns lowered even more, he said. Marks listed an array of reasons interest rates lowered returns, ranging from their stimulative effect to the reduction in the risk-free rate.
"After a brief foray into bargain-land in March, we're back to a low-return world. But since most investors haven't reduced their required or targeted returns, they have to engage in elevated risk in order to pursue them," Marks added.
"In my view, when uncertainty is high, asset prices should be low, creating high prospective returns that are compensatory," Marks said. "But because the Fed has set rates so low, returns are just the opposite. Thus the odds aren't on the investor's side, and the market is vulnerable to negative surprises."
The billionaire investor laid out a number of strategies for investors in light of the environment, with the caveat that none is completely satisfactory or free from downside. Going into cash to hold out for a better environment is an "extreme" move that was "certainly not called for now," he said. Investing as usual and settling for today's low returns is one strategy that he said is realistic though not exciting.
He also recommended alternative, private, and "alpha" markets with more likelihood of finding bargains, but cautioned that these can add illiquidity or manager risk.