Credit Cycle

The credit cycle is Howard Marks' framework for how the availability of capital expands and contracts. He treats it as the most volatile and market-moving cycle because capital providers can move from eager lending to total refusal faster than the underlying economy changes.

Cycle Mechanism

1. Prosperity improves lender results.
2. Bad news becomes scarce.
3. Risk aversion declines.
4. Lenders compete to deploy capital.
5. Required returns fall.
6. Credit standards weaken.
7. Covenants loosen.
8. Too much capital reaches weak borrowers or bad deals.
9. Losses appear.
10. Lenders retreat.
11. Capital becomes scarce.
12. Borrowers fail to refinance.
13. Defaults and bankruptcies rise.
14. With few lenders left, high-quality lending opportunities reappear.

Marks summarizes the pattern: prosperity brings expanded lending, expanded lending leads to unwise lending, unwise lending produces losses, losses make lenders stop lending, and tight lending ends prosperity.

Why It Matters

The credit cycle helps explain why markets move more violently than GDP. The economy may fluctuate modestly, profits more strongly, and markets dramatically, because the credit window can move from wide open to slammed shut.

For investors, the key is to observe whether capital is easy or scarce:

• Easy credit usually means future returns are being compressed and risk is rising.
• Tight credit usually means bargains may be forming, especially for patient capital.

Sources

• the-complete-collection-howard-marks — "Open and Shut," "The Happy Medium," "The Long View," GFC memos