SKARBECK: Forum covered broad terrain, from ‘second-level thinking’ to fraud

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Investing by Ken SkarbeckThe CFA Society of Indianapolis held its 2018 Annual Investment Forum this month, and a variety of invited speakers provided for an interesting day of discussion.

Howard Marks, the notable value investor from Oaktree Capital, led off with his outlook for the financial markets. Marks, in his customary cautious mode, noted that excesses start to build near the end of bull markets and that investors should reduce expectations and accept lower returns.

Marks also discussed a concept he calls “second-level thinking.” He said good investors see something others don’t. Consensus thinking is already baked into stock prices, so to do better than average you must think differently and better. The second-level thinker digs deeper—what are the range of outcomes, what are the probabilities, and is the consensus price too bullish or bearish?

Chen Zhao is a macro strategist with Alpine Macro. Zhao presented numerous charts to demonstrate his contention that there has been a significant change in the markets. The end of quantitative easing means a shift in Fed policy from providing liquidity to the markets, toward raising interest rates. Zhao said higher interest rates will benefit banks, which he recommends buying. On the other hand, he favors selling bond-like securities—REITs, high-dividend-paying stocks and utilities.

Zhao also noted that emerging markets had been in a multi-year bear market until delivering high returns last year. With emerging-market stocks still trading at discounts, based on price-to-earnings ratios and book values, Zhao believes the investment class is in the early stages of a broad-based expansion.

I missed the talk by BlackRock’s Richard Mathieson. The discussion centered on quantitative strategies used in alternative investing. Quants use algorithms to scan large amounts of data in an attempt to uncover investing trends. Part of that strategy involves monitoring financial and social media for keywords that develop themes on which quants can trade.

Next was a fascinating talk by Andy Fastow, the former Enron chief financial officer. Enron was the giant energy services firm that collapsed in 2001 under financial scandal. Fastow spent six years in prison for his roll in creating multiple off-balance-sheet obligations that obscured the company’s financial statements. These special-purpose entities served to hide Enron’s substantial debt and risk taking.

In the talk, Fastow admitted his actions were wrong and deserved punishment, but then asked his audience to walk in his shoes. He said that, at the time, he never thought he was committing fraud and instead believed his actions at Enron were beneficial to shareholders. He submitted that the rules of accounting are gray and allow a lot of room to maneuver and find “loopholes” that stretch the limits. Fastow noted his transactions were approved by Enron’s attorneys and board. He was even named CFO Magazine’s CFO of the year in 2000.

Fastow acknowledged that his Enron accounting deals became progressively misleading and fraudulent. He now consults with businesses helping to identify questionable accounting and financial issues.

The last speaker was Jeffrey Sherman of DoubleLine, the large institutional fixed-income firm. Sherman’s charts detailed the synchronous global recovery that is buoying all markets. Yet recent activity is pointing to a shift in the markets. The Fed’s move from easing to tightening rates is increasing volatility amid historically high valuations. Sherman is particularly tuned in for signals that inflation is increasing and believes it will be reflected in wage increases.•


Skarbeck is managing partner of Indianapolis-based Aldebaran Capital LLC, a money-management firm. Views expressed are his own. He can be reached at 317-818-7827 or

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