Taking the Temperature

Summary

• Five market calls were selected from memos written between 2000 and 2020 because they accurately conveyed thinking at key turning points & the calls proved correct.
• In January 2000, a memo identified the technology, media, & telecom (TMT) sector as a bubble due to astronomical prices based on concepts rather than profits.
• The TMT bubble burst in early 2000, causing the S&P 500 to fall 46% from its 2000 high to its 2002 low & the NASDAQ Composite to decline 80%.
• Between late 2004 & mid-2007, low prospective returns & investor risk-seeking behavior led to a focus on residential real estate & the belief that home prices only rise.
• Oaktree increased defensiveness during the 2004-2007 period by selling assets, liquidating funds, & raising investment evaluation bars due to low returns & high risk.
• A July 2007 memo noted low skepticism & fear, flat risk/return slopes, & skimpiest risk premiums despite investors accepting incremental risk.
• The financial crisis unfolded eight months after the July 2007 memo with the Bear Stearns meltdown, the Merrill Lynch rescue, the Lehman Brothers bankruptcy, & the AIG bailout.
• The S&P 500 fell 53% from its 2007 high to a low of 735 in February 2009.
• Oaktree had no involvement in subprime mortgages or mortgage-backed securities & reached cautious conclusions by taking the temperature of the market rather than through subject-matter expertise.
• In late 2008, Oaktree organized an $11 billion reserve fund for distressed debt between January 2007 & March 2008 to prepare for crisis proportions.
• Following the Lehman Brothers collapse, Oaktree assumed the financial world would continue to exist & invested aggressively to avoid missing opportunities.
• Bruce Karsh's team invested an average of $400 million weekly from September 18, 2008, through year-end, totaling $6 billion in a single quarter.
• Total investments by Oaktree during that period reached $7.5 billion.
• The firm purchased senior-most debt of high-quality companies at prices low enough to withstand significant value declines.
• The author concluded that extreme pessimism in the market indicated a buying opportunity where the risk of lasting loss was low.
• After the TMT bubble burst, the S&P 500 experienced negative returns in 2000, 2001, & 2002, the first three-year stretch of such performance since 1939.
• Disillusionment with stocks & low bond yields caused capital to flow to alternative investments like hedge funds & private equity.
• The Global Financial Crisis & fears of financial-sector meltdown added to investor negativity & weighed heavily on market sentiment.