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Seth Klarman: Most people are not ready for risk

May 13, 2014

Quotes from a recent investor letter sent out by reclusive and respected investor Seth Klarman has generated a lot of buzz in some circles. His perspective is intriguing, insightful, and at times provocative. The theme of his letter, which was captured well in a summary article penned by Mark Melin, is that the Quantitative Easing (QE) bubble will burst, and that investors who are downplaying the risk and not paying attention to some eyebrow-raising metrics are setting themselves up for trouble. Consider the following quotes from his letter:

“Markets don’t exist solely to enrich people.”
 

This might seem like an obvious point, but it’s surprising how often investors lose sight of this fundamental truth.
 

“Someday financial markets will again decline…QE will end and money won’t be free.”

Again, this speaks to the cyclical nature of the marketplace, and reminds us of the ease with which a basic “buy low—sell high” mentality can be forgotten in the midst of a bubble. The market’s recent growth should be a warning sign, not an indicator of future profits.
 

“It’s always a good time to be risk averse”
 

As Klarman points out in his letter: “…any year in which the S&P 500 jumps 32% and the NASDAQ Composite 40% while corporate earnings barely increase should be cause for concern, not further exuberance.”
 

“In bear markets, too many investments turn into roach motels—you can get in but you can’t get out.” & “It’s easier to buy than to sell.”
 

When things turn south, those that have been proactive and adopted a cautious posture will be rewarded. The penalty for staying overexposed a little too long can be significant and damaging.

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