Howard Marks: Aset prices Higher, Not In Bubble Territory

Howard Marks: Aset prices Higher, Not In Bubble Territory

Howard Marks – Oaktree Capital Group LLC (NYSE:OAK) – Chairman remarks on the conference call today. He also took QA. Check it out below.

Thank you very much, Andrea. Good morning, everyone. I am delighted to join the call this time and I look forward to answering your questions at the end given all that we have been doing at Oaktree and all that is happening in the investment arena.

In running and growing in our businesses historically we have followed a simple standard, the logic of everything we do should be immediately obvious to our clients. And that standard has served us very well over the nearly two decades of Oaktree’s history and the three decades plus since my Oaktree cofounders and I started managing alternative assets together.

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We’ve grown almost entirely through what we call step outs, movements into adjacencies of existing strategies. From our beginnings in the 1980s in US high-yield bonds and convertibles, we grew gradually to seven strategies at the time of Oaktree’s founding and to over 20 today. That organic approach to our growth has served our clients well because its evolutionary nature reduces the risk of mistake or loss.

It turns out that the primacy of risk control which of course as you know is the key tenant of our investment approach, also provides an excellent guideline of conduct of our business. The evolutionary approach has served us well as owners of Oaktree, producing sustainable growth and strong cash earnings through multiple market cycles. Of greatest pride to me, we have achieved this growth and prosperity while remaining faithful to the core principles responsible for it. And those are commitment to clients, excellence in investing and a culture dedicated to long-term success.

Thus, I’m energized today as I have ever been about Oaktree’s business and prospects and I look forward to making our next 20 years even better than the first 20.

To help make that statement a reality, we are taking another evolutionary step in adding to our senior management as many of you know. On Monday, Jay Wintrob will become Oaktree’s new Chief Executive Officer, the first in our history. But Jay is hardly new to Oaktree. He has been on our Board since 2011 from the time before we went public and he is a longtime personal and professional friend of Bruce Karsh and me. Jay is an extraordinarily accomplished business executive having built SunAmerica into AIG’s largest profit center while proving himself as a skilled operator of global financial services businesses.

For us Jay represents an ideal combination of continuity and fresh thinking in the classic Oaktree mold as we see it. Jay picks up from the base John Frank has built. Just as Jay will help lead Oaktree to the next level and beyond, John took us up multiple levels as managing principal over the past nine years. Having himself relieved Bruce of corporate administration, a major step forward to kick off Oaktree’s second decade.

Under John’s leadership, we successfully negotiated the global financial crisis and its aftermath while tripling our AUM, building a global operating platform and establishing Oaktree as an enduring publicly traded institution. Bruce and I are deeply grateful to John and delighted that he will advise Jay and continue to guide Oaktree as its Vice Chairman.

Jay’s availability to become our CEO could not have been more serendipitous. Capitalizing on abundant opportunities for growth while simultaneously tending to the myriad details of a regulated complex global business is a tall order. Jay has been there and done that. At Oaktree he inherits an organization that has never been stronger from the perspective of people, momentum, financial resources or avenues for growth.

Earlier I mentioned our requirement that the logic behind our actions should be apparent to our clients. And thus I’m pleased to assure our unitholders that the clients have reacted very positively to Jay’s appointment.

In all of my years, Oaktree services have never been more sorely or highly valued — sorely needed or highly valued. In the last month or so, spasms of anxiety returned to beset investors worldwide who want respectable returns without undue risk. And this creates an environment that is an ideal match for what we have to offer.

Speaking of the environment, since mid-2011, our investing mantra across Oaktree has been move forward but with caution. In the US, we see the economy getting stronger and asset prices getting higher although not generally in bubble territory. Economies elsewhere especially in Europe and certain emerging markets are weaker. We are respectful of the determination of central banks to stem economic weakness by keeping interest rates historically low and the appeal of riskier assets high.

More than five years into recovery as we are now, one would typically expect to see a pickup in defaults and other signs of distress. But of course nothing about this cycle has been typical so it isn’t surprising that defaults and distress remain in short supply. As we like to say at Oaktree, our crystal ball is no clearer than yours so we don’t try to time tops and bottoms. Instead we focus on providing our clients performance designed to excel over a cycle with a heavy emphasis on minimizing losses and making bargain purchases of distressed priced assets during downturns.

We stick to this approach because we feel it is the best way to manage assets especially in our more adventurous asset classes and because that is what our clients hire us to do.

That said, I’m often asked for my thoughts regarding the next downturn. One thing seems safe to predict, the timing and trigger are unpredictable. At least that has been the case for the downturns I’ve lived through. But as they approached, we have usually felt that we could add value by preparing for downturns. It is essential to understand where we are in the cycle and to adjust our actions on that basis. We adjust both the balance between offense and defense in our portfolio management and the amount of money we raise. Our global footprint benefits us as the environment isn’t always uniform worldwide. Thus we may pursue different paths given the diverging trajectories of the US and other economies.

In closing, I will add that the US economy and capital markets currently appear to be in a virtuous cycle in which the defaults are unlikely to rise in the foreseeable future. But virtuous cycles don’t go on forever. Sooner or later defaults will rise and markets will fall. We have no idea whether it will be sooner or later or what will make it happen but you and our clients can be assured that we will be ready when it does happen.


Howard, do you want to touch upon Jay and his sort of strategic initiatives? Or his (multiple speakers)

Howard Marks – Oaktree Capital Group LLC (NYSE:OAK) – Chairman

Sure, John, thanks. I don’t know if I stepped on your line there. But, Mike, just to answer a question you may or may not have asked, I don’t — I think that in general fees are not going down on these products. And in general, we will continue to get about the same kind of compensation on most of them as we have in the past in terms of terms and rates.

The other thing about Jay, Jay — I used the word serendipitous, which is a multisyllabic way of saying lucky. Bruce and I know Jay for a long time, Bruce worked with Jay at O’Melveny and Myers well before he ever met me. And so there is nothing like being able to hire somebody you know, you know not only their talents but also their interpersonal manner. And the way we run Oaktree, it was extremely important to us to bring in somebody that we know who we know would fit smoothly into the organization and the culture.

And that is what we got in Jay. We were not searching for a CEO but most of the things we do are opportunistic. And this certainly falls into that category. We normally would never have thought we could have attracted Jay and we felt lucky to be able to do so. Now your question specifically touched on insurance. And I would say that while we are looking at insurance-related products at the present time and while we manage a lot of money for insurance companies already, I wouldn’t read too much into that particular connection. I would feel safe in saying that Jay’s hiring was not primarily insurance oriented.

Howard Marks – Oaktree Capital Group LLC – Chairman

Well, I would add — I would amplify John’s comment. I would say, Ken, the environment got a little better for the bargain hunter. And it is not — it certainly wasn’t a crash or a major episode but as John says, it’s — the markets are healthier when people realize that they go up and down. The markets are healthier when they worry about negatives as well as enthused about positives.

So and we always feel we could do a better job when the market is more balanced. So it was a favorable development but certainly not a major one in the scheme of things.


Howard Marks – Oaktree Capital Group LLC – Chairman

Well I — yes, first of all, I will let him annunciate his vision when he is ready. If he is going to run the Company then he should be expressing that himself. And secondly, I think it would be premature for either him or me to talk about his vision at this time. He knows us as a director for three years but I think he is going to want to get well into the details of how the Company is running before he formulates and talks about his view of the future.

So I am going to duck that for now. He won’t even start until Monday so he probably won’t know until Tuesday.


John Frank – Oaktree Capital Group LLC – Vice Chairman

Howard, do you want to add anything?

Howard Marks – Oaktree Capital Group LLC – Chairman

Well, you know, I have to confess that we don’t have any inside information on the direction of energy prices. Am I allowed to say that, John? But every time you make an investment, everybody talks about being a value investor, which means buying companies because you get a claim on some assets at a reasonable price and not being a market timer and not being a forecaster and all these things but every investment requires certain exposure to the future. And when you buy assets at value as we try to do, you are exposed to the things that happened to the prices of those assets.

And so every investment activity involves some macro decision making and some forecasting. But all we can do in self-defense is to try to get the assets cheaply. Obviously commodities have more exposure to changes in prices than do the assets in some other businesses which have their own risks. So for example in TXU, we might be exposed to the trends in the prices of gas. But on the other hand, we buy into TXU assets cheaply and people talk about margin of safety. The greatest margin of safety that you can get in this business comes from buying in cheaply.

Chris Harris – Wells Fargo Securities – Analyst

Understood. Thank you.

John Frank – Oaktree Capital Group LLC – Vice Chairman

And, Chris, I think Howard would agree that it is an oversimplification but generally any time something happens that the world generally speaking didn’t anticipate would happen, it tends to create reasonable opportunities for us. And our colleagues are excited about looking at some of the dislocations that have been created by this move in the price of oil.

Howard Marks – Oaktree Capital Group LLC – Chairman

Well, if I can make that a little more immediate, I mean corporate transactions take place all the time especially acquisitions and capital expenditures and so forth. And decisions to leverage take place based on assumptions about what earnings and assets will be in coming years. And when aggressive transactions take place and then those assumptions are disappointed, that creates the opportunities that John is alluding to that is really what creates the stress. When —


Howard Marks – Oaktree Capital Group LLC – Chairman

Sure. Yes, let me just say that the AB structure gives us — while nothing gives us infinite flexibility that is to say every closed end fund that is formed has to have a size at which it stops, I mean it stops and then it has a size that then can’t be changed post closing. But the AB structure does give us remarkable flexibility and it is been very helpful to us in the past.

Order of magnitude, we’re talking about similar funds. I mean VII with 3.5, VII — X will be 3. VIIb was 11 and Xb will be 7. So it is a little smaller but still not dissimilar in pattern.

I think clearly at the time that — remember that VIIb did not have a goal. It merely took all the money it could get over the course of the year between March 2007 and March 2008 and over that time, the amount we could raise grew and grew as people became more and more negative.

When we started it, the process in January, February, March of 2007, the world looked like a very positive place, the world actually looked like it was stuck in one of those virtuous cycles that I talked about in my remarks. And by the way and so it looks like that again today.

But I think in direct — so the outlook for investing in X is certainly not as strong as it was for VII. In VII, we thought we might have a big deal and it turned out that it wasn’t a big deal. And so Opps X will be nearly the smallest fund we have raised since 2005, the smallest fund we’ve raised over that nine-year period has been Opps VIIIb, which I think was $2.8 billion. But this will be nearly as small.

So clearly that is not an expansive approach to life in X. $7 billion for Xb is a lot of money; that would be the second largest fund we ever raised. And by the time Xb is investing in 2016, 2017, 2018, something like that, we are going to be seven, eight, nine, 10 years since the recession. Could be a great thing. Who knows? So [7] certainly prepares us and the combined total of [10] prepares us is that people always say to me what keeps you up at night? And I always say, I wonder that we have too much money to manage and I wonder that we have too little money to manage. And I will never be able to perfect that but I think that this just feels like a very appropriate combination of amounts to us.

And I would add finally that I think we do have scope. I don’t think that the $7 billion in Xb is a hard cap so as your question suggested, I think we have the ability to increase it over the marketing period if the facts warrant it. If the facts only come in as we currently expect, we would not make a major change in the target.

Marc Irizarry – Goldman Sachs – Analyst

Howard, I am curious when the team will be out there raising the next Opps Fund, I guess where — where and what are you sort of alluding to could be the sort of nearest term opportunity to deploy the capital? And then just getting back to the addition of Jay, and I don’t want to be too speculative on this, but I guess when you out there marketing this fund now, does this sort of answer question around Bruce’s enduring focus on managing the Opps Fund versus managing the business? Thanks.

Howard Marks – Oaktree Capital Group LLC – Chairman

Sure. Well I am really glad that the operator asked everybody to ask only one question. First of all. We always have an unruly group so this is no exception.

First of all, Marc, I can’t tell you where we will be investing. For two reasons. I would never want to tip our hand to what we are looking at or where we think the opportunities will be. The world is just too competitive a place to encourage that.

On the other hand or the second reason I should say, is that the investing of Xa will just start some time in 2015 maybe six months from now plus minus and we have no idea what the world is going to look like at that time.

Most of our opportunities, as you know, have been coming in shipping, real estate, European loan pools, that has been the bulk of it. And so that is probably — those are probably the areas that are most likely to give opportunity in the beginning of the Xb — Xa investment period. But in this environment it is really — it’s not market trends, it is really one-off opportunistic sharpshooting, I would say. Remind me of your second question? Because I have trouble with two questions. Remind me.

Marc Irizarry – Goldman Sachs – Analyst

Just the addition to Jay, does that sort of — is there sort of a perception amongst the LTs around sort of losing focus?

Howard Marks – Oaktree Capital Group LLC – Chairman

No, I don’t think so. I mean Bruce and I have been — we started off being the management of the Company and then John came in and took a great deal of the burden off us. But Bruce is wearing lots of hats from portfolio manager on the Opps Funds to CIO of Oaktree to Principal Executive Officer in recent years. And it’s going to be great to have Jay take his business management responsibilities largely off his shoulders and to give them the full-time attention that they deserve.

Look, Bruce has been working with me a long time, 27 years. And we all have to provide — everybody asks us about succession, transition and all these things. And it is not a matter of well when we go under that famous bus, who steps up? It is really how do we transition over time in a gradual nontraumatic way? And I think that Bruce has a great opportunity to continue to contribute for a long time by making this attractive gradual transition and among other things, it has to be as you can imagine, a transition which is attractive to him.

So now he has got Rajath Shourie, Bob O’Leary, and Pedro Urquidi working with him as co-portfolio managers of the Opps Funds. And he has never been invigorated to a greater extent than he is by having those three colleagues. They were many years when he was the sole portfolio manager and that is quite a burden.

And I think clearly by giving him three great co-portfolio managers it is going to extend his longevity as a PM and nobody is reluctant to see that happen.

And then of course, he is also very involved now at the CIO level trying to get — help our operation get the most out of all of the PMs and work together and so forth. So I think it is an exciting time for him and all very positive. And, yes, Jay’s arrival and Jay’s full-time turning of professional managerial attention to those aspects of the Company is a huge plus.

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