Growth: I'm in a Cycle Too

I've been reading Howard Marks' Mastering the Market Cycle. The book is about markets: the economic cycle, the credit cycle, the cycle in investor psychology, and how to judge where you are in it. Halfway through, I noticed I was reading it a different way, holding each thing it says about markets up against myself.

Anyone who studied finance knows cycles well. We're used to the ups and downs on a chart, and we know there's no asset that only goes up. But when it comes to my own state, mood and judgment, I rarely look with the same eyes, as if markets have cycles and people don't.

Mood is a pendulum

Marks spends a lot of the book on the pendulum of investor psychology: swinging between euphoria and depression, between seeing only the good news and fixating on the bad, between believing everything and believing nothing. The pendulum, he says, spends very little time at the midpoint. Most of the time it's on its way toward one extreme or on its way back from one.

Looking back at the past few years, I can trace almost the same path in myself. Learning something new, the first few weeks go fast and I feel I've found my direction and want to try everything; a while later I hit a problem I can't get around and start doubting that every earlier judgment was wrong. On the days things go smoothly, everything looks like an opportunity; on the days I'm stuck, everything looks like a problem. The situation itself often hasn't changed that much. What's changed is which end of the pendulum I'm standing at.

Knowing this doesn't stop the pendulum. But at least when my mood is very full or very empty, I remind myself that what I'm seeing right now is probably magnified.

First, know where you are

There's a line in the book I've reread several times, roughly: we may never know where we're going, but we'd better have a good idea where we are. Marks' point is that predicting the future is hard, but judging the present position is doable: are prices high, are people greedy or fearful, is risk being respected or ignored.

Applied to a person, the line is practical. I can't predict what I'll be doing a year from now, but I can ask myself a few questions about now. Has everything felt easy lately? Have I started to feel something is settled and doesn't need checking any more? Or the other way round, has it been a long time without progress, and have I started doubting everything? These are easier to answer than "where should I be heading," and they do more to tell me whether to do more or less next.

Cycles always turn

Marks keeps coming back to this: the most reliable thing about cycles is that they reverse. Trees don't grow to the sky, and few things go to zero. A good trend that runs too far plants the reasons for its own turn; a bad stretch that lasts too long slowly builds the conditions for recovery.

For me that's both a comfort and a warning. In a good stretch, I tend to treat it as the new normal, as if I've finally found the method and it will always be like this. In a bad stretch, I tend to treat it as the final verdict, as if I just can't do it. Both make the same mistake: taking one segment of the cycle for the whole line.

So now I try to do two things: when things go well, not to treat it as normal; when things are low, not to treat it as a verdict.

Risk is highest when it feels safest

Another idea in the book stuck with me: risk is highest when people feel it is lowest. When everyone feels safe, they relax their standards and bet bigger, and risk builds up in exactly that relaxation. Conversely, when everyone is afraid, prices already hold a lot of bad news, and the real risk is falling.

People are the same. Trouble rarely starts in the hardest stretch. It starts when everything is going smoothly and I begin to feel I don't need to be so careful. After a few judgments in a row turn out right, I quietly skip a step of checking, take on one more thing, pack the plan tighter. When something does go wrong and I look back, the problem was usually planted in the easiest stretch.

Too early looks the same as wrong

Marks has said that being too far ahead of your time is indistinguishable from being wrong. See the direction right but get the timing wrong, and the outcome is the same as seeing it wrong. It ties into the second-level thinking he describes in The Most Important Thing: first-level thinking only asks "is this good or bad," while second-level thinking also asks "what do others think, how much is already reflected, and when will it be seen."

Applied to myself, it gives me a bit more patience, and a bit more honesty, about being right without results. Some directions I may simply have seen too early. Sticking with them isn't necessarily wrong, but I have to admit that until results arrive, it looks no different from being wrong. What I can do is not stake all my effort on a single point in time, and leave myself room to wait.

Doing less at the extremes

I didn't come away from the book with a system for managing myself. Marks himself says cycles can't be predicted precisely; what you can do is adjust your posture to where you are: a bit more cautious near the top, a bit more assertive near the bottom.

For me, that comes down to making fewer decisions at the extremes. When my mood is high, no rushing to add more, no rushing to make promises; when it's low, no rushing to give up, no rushing to tear things down. Important decisions wait, as far as possible, until the pendulum is back near the middle. That doesn't let me escape the cycle, but it means I make fewer of my biggest moves from the worst position.

I used to look at cycles only on charts. Now I'm starting to look for them in myself.