Among large-cap equity fund experts, Bill Miller is practically a household name. At the helm of Legg Mason Value Trust (LMVTX ), he's the only mutual-fund manager who has beaten the Standard & Poor's 500-stock index for 13 years in a row. What's his secret? Buying names that are priced less than what they're worth. His approach has landed him on the list of winners of the S&P/BusinessWeek Excellence in Fund Management Award for the second time.
BusinessWeek's Lauren Young recently spoke with Miller about his value investing strategy, books he has recently read, and other topics. Edited excerpts of their conversation follow:
Q: Do you manage the fund with an eye toward risk? A:
Q: Do you manage the fund with an eye toward risk?
A:Risk assessment and risk analysis and risk management are all critical parts of what we do. We assess risk at the individual company level but manage it at the portfolio level. We're trying to think about the volatility in the portfolio in the aggregate, as opposed to an individual stock.
If you have an energy stock and airline stock and they move in opposite directions, you'll have little volatility even if the individual names have lots of volatility. That's best exemplified in '02 and '03. In '02, the market was fleeing risk, whether Nextel (NXTL ) went to $2 or Corning (GLW ) to 90 cents.
Nextel is a good example. It was $2 or $3 in summer of '02, this year it will make $2 per share in earnings. It's up almost 10 times. In '03, after the Greenspan/Bernanke speeches and the Iraq war was fully discounted, most people felt they didn't have enough risk.
Q: Have you made any changes to the portfolio? A:
Q: Have you made any changes to the portfolio?
A:We had very little activity in '03. I'm not sure what the full-year turnover was. At the end of the third quarter, it was 4% annualized, which is the lowest it has ever been. We went into '04 well positioned. We had what the market would want, and it had more perceived risk -- I underline perceived risk.
The people who were cynical in '03 thought that only the low-quality stocks gained, [that] the rally wasn't for real, it was speculative. What I believe was: The more risky names, the more speculative stocks, just got way too cheap. They got below what reasonable value was.
Going into '04, people were pausing and trying to sort out their portfolios. They were trying to figure out what they wanted to own. Many cut back in those names. And through now, the Nasdaq is the worst-performing index this year -- the past five weeks we've had a correction.
If you take our top three names -- in mid-February that was Nextel, Tyco (TYC ), and Amazon.com (AMZN ) -- they were all up almost up 100% last year. AES (AES ) was up 157% in same period of time, Capital One (COF ) was up 131%.
We had only three stocks down last year. And the substantial majority of names outperformed the market. That's unusual for us. The overall portfolio was positioned reasonably well.
Q: What's your take on the market? A:
Q: What's your take on the market?
A:I think the market is fine. There's a lot of concern out there at macro level about deficits, commodity prices, and job growth, or lack thereof. Those concerns, when you read about it in the paper, are well reflected in market prices.
The bond market has rallied since Dec. 31. When the bond market rallies, usually it's because people are choosing safety over risk. The market will be more selective this year. I believe the next rally phase will be more selective.
Q: You're always reading such interesting books. What are reading now? A:
Q: You're always reading such interesting books. What are reading now?
A:The last thing I finished was a recent book by Greg Easterbrook, The Progress Paradox. The gist of it is: If things are so good, why do we feel so bad? It lays out social indicators and the economic indicators. It quantifies the past 40 years.
One example: When we turn on the TV, they talk about the health-care crisis in America, but if you look at actual measures of health, life expectancy continues to go up. By every measure, the overall health of the public is better. It's an odd thing to call a crisis. That's bad. Every time you open the newspaper -- I'm not blaming the press so much, but you still hear about it.
I was watching Greenspan today. A Congressman was quoting in his Q&A some of the things the Republicans were saying about the Clinton budgets of the 1990s. It was going to lead to Armageddon. How were the late '90s? Pretty good. But in order to get people's attention in an informationally crowded world, you have to make things more dramatic.
This sounds like behavioral finance. If you drop down to what we do, people will overemphasize the negative. They may be negative even when it isn't justified.
Q: Which behavioral-finance experts are you influenced by? A:
Q: Which behavioral-finance experts are you influenced by?
A:Terry Odean. Dan Kahneman is terrific, he spoke at our Legg Mason conference. It was an investment conference our fund groups did. He talked about individual investor behavior. I also like the usual suspects: Dick Thaler, Robert Schiller, people like that.
Q: What do you think about the Comcast (CMCSA
) deal to buy Disney? A:
Q: What do you think about the Comcast (CMCSA ) deal to buy Disney?
A:I have a high regard for Brian Roberts and his team. It was evidence that they believe they were searching for a Disney (DIS ), vis à vis Time Warner (TWX ) and News Corp. (NWS ). Time Warner has content and distribution. With Hughes, News Corp. has content and distribution. With Comcast, they had the possibility of being marginalized in that type of environment. Cable is a very mature business. There's almost no new net growth.
It was an opportunistic deal that they felt strategically challenged to do. The market reacted rationally. The idea is, how much they can improve Disney? Steve Burke does understand how the company is managed.
Q: What about Amazon.com? A:
Q: What about Amazon.com?
A:The current whipping boy in our portfolio is Amazon. The bears and the shorts are all over it. Some analysts are saying, "Oh, Amazon is cutting prices to get business, they can't grow. It's very bad for them. The model isn't working. Blah blah blah."
That's the same sort of wisdom they used with Dell (DELL ). Dell was well below Amazon in terms of gross margins. Amazon's gross margins are the same as Wal-Mart's (WMT ). People fundamentally misunderstand that Amazon is Dell applied to the retail business. They want to get scale. They'll keep cutting prices, and they'll share the savings with the customer, like Dell or Wal-Mart.
Q: Have you ordered anything on Amazon lately? A:
Q: Have you ordered anything on Amazon lately?
A:They're very smart. They were running a promotion few weeks go: Buy tomorrow, get it the next day. The book was $11, and shipping was $15. The book was Vanishing Point. It's by an avant-garde novelist named David Markson.
Q: Is it true you took a vacation last year? Where did you go? A:
Q: Is it true you took a vacation last year? Where did you go?
A:It's true. I don't take a lot vacations. My wife and I went away for a week on a cruise to Turkey and Greece. We went to a few islands and Istanbul.
Q: The fund has $14 billion in assets. Any plans to close it? A:
Q: The fund has $14 billion in assets. Any plans to close it?
A:Nope. We could take a lot more money than that. We're a big-cap fund, so we don't have a problem finding stocks to buy.