"Janet Lowe's summary of Bill Miller's incredible investment record and its origins are a must read for all serious investors."
-Mason Hawkins, Chairman and Chief Executive Officer Southeastern Asset Management, Inc. and the Longleaf Partners Funds
"Bill Miller combines sophisticated analysis with an open mind and a healthy dose of common sense that is enormously refreshing. Anyone who has an interest in investing should find Miller's approach to stock picking a fascinating and valuable study."
-Ken Gregory, President Litman/Gregory Fund Advisors and Masters' Select Funds
Value Investing for the New Century
Bill Miller has become the role model for those who wish to learn how to recognize value in today's new and emerging markets. He has set one of the best mutual fund performance records with Legg Mason's Value Trust, and continues to beat the S&P 500-eleven years and running-with his proven value investing techniques.
The Man Who Beats the S&P: Investing with Bill Miller reveals the strategies and philosophies that have driven Miller's brilliance as a money manager. With charts that make the Miller method easy to follow, real-world stock scenarios, and proven valuation techniques, business writer Janet Lowe offers a fascinating and comprehensive look at Bill Miller's value investing approach.
You'll learn how to:
* Navigate the high-tech sector
* Think like Bill Miller in making successful investment decisions
* Master the art of new economy and old economy valuation
* Manage the various aspects of a portfolio
If you're looking for an investing philosophy that has proven successful year in and year out, you will be enriched by reading The Man Who Beats the S&P.
You got to be very careful if you don't know where you're going, because you might not get there. Yogi Berra
The telephone rings. A young woman hurriedly announces that Bill Miller will be on the line in a second. Is this a good time for the interview? Actually, my computer is down for a couple of hours with my carefully crafted questions inside. But we've tried to arrange this telephone tête-à-tête for weeks. Miller is traveling. I am traveling. Okay, let's go for it. I warn him that I'm taking notes by hand, juggling the telephone and a legal pad, working from memory. Fine. He blasts off like a verbal rocket ship, firing out big concepts, spewing multisyllabic words, responding to questions as if his afterburners are in full tilt.
Whew! William H. Miller III, America's new money master, is a man in a hurry, but he's not showing off, brushing off, or short shrifting. By nature a high-energy, intellectualizing type (what else can you say about a man who uses the word enantiodromia-i.e., to proceed by way of opposites, or to swing the other way-in an annual report), Miller has earned celebrity status among investors and his peers by taking a classic concept-value investing-and catapulting it into the twenty-first century.
Michael Mauboussin, an investment strategist at Credit Suisse First Boston who also teaches an investment class at Columbia Business School, considers Miller the best mutual fund manager in America. "He's had a couple of things that land-mined this year (2001). But the guy made more money than God in AOL and Dell." (By 1999, Miller had a 3,500 percent gain in Dell. At that time, he began trimming down his position.)
Fifty-two-year-old Miller runs the Baltimore-based Legg Mason Funds and is manager of the $11.8 billion Value Trust, the only diversified fund to beat the Standard & Poor's 500 for 11 years in a row. He was named Morningstar's Domestic Equity Fund Manager of the Year in 1998 and was his fellow analysts' choice for Morningstar's 1999 Investment Portfolio Manager of the Decade category. For the life of Value Trust, it has given an 18.24 percent annual return, and since 1991 Miller has achieved an annual total return of 18.16 percent, putting him laps ahead of most value-oriented money managers. In his eighth year of outperforming the S&P, he seized the record from former Fidelity Magellan legend Peter Lynch.
Furthermore, Miller achieved these records in a market that was decidedly hostile to value fund managers. For 30 years, from the mid-1960s to the mid-1990s, value was the front-running performance style, but since 1995 value funds have taken second place to growth funds. Some growth managers grouse that Miller only achieved stellar results throughout the 1990s because he abandoned value principles by switching from the old-economy blue-chip companies to a new-economy high-tech mode.
In fact, Miller does, from time to time and for significant parts of his portfolio, journey into the world of contemporary technologies. Yet he says this in no way diminishes his love affair with the fundamental value concepts. It does indicate, however, that Miller sees the future and knows that at some point value investing concepts and the world of high-technology business must meet, greet, and enter into a relationship.
THE RACE FOR THE BETTER BRAIN
Computer scientist Ray Kurzweil, author of The Age of Spiritual Machines: When Computers Exceed Human Intelligence, predicts that by the year 2018 computers costing just $1,000 will have roughly the same intelligence as the human brain. They will be able to talk with humans, recognize us, and keep us company when we're lonely. Short of an opposable thumb and a few other features, they'll have everything humans have. And within 10 years more, a $1,000 computer brain will have the power of a thousand human minds. The brilliant machines will start claiming consciousness-the digital equivalent of "I think, therefore I am." Kurzweil writes that "The specter is not yet here." But, he adds, "The emergence in the early 21st century of a new form of intelligence on earth that can compare with, and ultimately exceed that of human intelligence, will be a development of greater import than any of the events that have shaped human history."
Given the potential impact of advances in electronic communication and computerization, can the revolution this implies be ignored by the investment world? Change is coming on galloping hooves, and indeed, investors have been overtaken by change before. But the canniest among them rode with the herd, embracing the onslaught as Bill Miller has done, rather than resisting it.
In their book Information Rules, Carl Shapiro, former chief economist to the Justice Department, and Hal R. Varian, dean of the School of Information Management and Systems at University of California-Berkeley, point out that a hundred years ago the way people lived and worked was turned upside down by two early network industries: the electricity grid and the telephone system. The rate of adoption may have been slower than the adoption of the Internet and it took longer for unifying standards to be established, but just as the impact of the Internet is huge, so were electricity and the telephone. Some experts claim that computers and the Internet are nothing more than the next evolutionary stage of these seminal technologies. Whatever the case, one thing is clear: Information technology is no longer something that nerds manipulate for kicks; it has become big business. Those who avoid it risk being left behind.
CAUGHT IN THE CORRECTION
Yet, as everyone discovered as the millennium dawned, high-kicking high tech is as risky as the old fuddy-duddies warned. And despite his innovative meshing of high tech and value, Miller to some extent got caught in the correction. Like all investors, he has chosen dynamite and duds, held both losers and winners too long, and simply missed the message on some superior companies. Like Warren Buffett and other longtime survivors in the investment world, Miller has occasional down ticks. During the late 1980s, Value Trust underperformed 4 out of 5 years, and ratings from Morningstar and other ratings services were an embarrassment. Although Miller turned that around and continued to outperform the S&P 500 through the end of the twentieth century and into the twenty-first, the returns on his funds were sometimes in negative percentages. Fortunately, the S&P's negatives were greater than Value Trust's. But Miller says these occasional slumps don't matter. Ten good years in a row "cuts you a lot of slack. I can underperform this year, next, for the next 3 years really."
All this said, those irritating, tenacious, value-oriented questions remain: When information technology stocks have such limited histories, how can an investor be certain that revenues will grow, free cash flow will be strong, and other fundamentals will materialize? With the wispy information that is usually available, how can anyone figure out whether a company's price is too much or too little? Miller admits he doesn't always know for sure. And his critics have expressed doubts at times that he is sure of what he's doing.
In fact, that's not even the way Miller thinks about his investments. He is acutely aware that in the investment world, there is no such thing as certainty. It's all about probability-how probable is it that a stock will achieve an expected return over time? Miller fully expects to be wrong a certain number of times, but he expects to be so spectacularly right enough times that he will achieve a high level of performance. For example, explains one of his analysts, Mark Niemann, if Miller is investing in four companies, three of them might go to zero. But if the fourth went to 6 times its current price, Miller could end up with a 50 percent return, or a total return on his portfolio that would beat the market. In fact, an analysis of Miller's portfolio performance would show that he sometimes has a lower frequency of correct picks than other managers do, although his return remains high.
"I USED TO BE SNOW WHITE, BUT I DRIFTED"-MAE WEST
Imagine the uproar in the mid-1990s when Bill Miller, a conservative-type money manager from Baltimore, started nosing around tech stocks, then made the big leap-God forbid-to telecommunications and Internet issues.
To a whole crowd of observers, old-line Legg Mason Wood Walker Inc.'s Value Trust, which eventually had 20 percent of its assets in stocks such as America Online, Amazon.com, and Dell Computers, was a travesty. To many, Value Trust, always a blend of value and growth, had crossed the line to become a growth fund. After all, it now quacked and waddled and flapped its wings like a growth fund. So a growth fund it must be.
"Lots of value managers, like William Miller at Legg Mason Value, are no longer buying what we consider value stocks," wrote mutual fund columnist Mary Rowland. "Miller's record is great, with annual returns of more than 43 percent over the last three years. But is it value, when your top holdings including America Online, Dell Computer, and MCI WorldCom? I don't think so."
Even more critical was a column published in July 1998 on the financial web site theStreet.com. The site's founder, James J. Cramer, wrote, "value in this world has simply become a masquerade, a mean spirited marketing tactic that lures people in the door who would otherwise have no desire to own such nosebleed stocks."
WAS VALUE INVESTING DEAD, OR JUST OUT COLD?
The implications were abundantly clear. Bill Miller had become a poseur, a pretender-no longer a crew-cut, establishment-value guy. What's more, if a man smart enough to beat the S&P 500 year in and year out was jumping ship, then clearly value was dead. Journalists were among those who shouted the loudest that Miller had sold his very soul, especially those writers who pinned their analysis on highly simplified investment definitions.
Most of the pooh-poohing of Miller as a value investor came in the late 1990s, when respectable publications were happily and confidently chiseling headstones for the value approach. In an article typical of the times, Businessweek reported that despite the new-millennium revival of the classic approach, "the current rally could also be the last hurrah for old-style value investing. Such investing produces its best results in a traditional business cycle. Value stocks typically achieve most of their gains from the bottom of a recession to the top of the expansion as the rising economic tide lifts revenues and profits. Growth stocks-those with more reliable earnings streams-then outperform value stocks in the down phase of the business cycle.
"In a period of declining profits, the market prizes the companies whose earnings can continue to grow. But now, thanks to technology, globalization, and a savvier monetary policy, the business cycle has been dampened and elongated. From 1945 to 1991, the U.S. economy went through nine recessions. The current expansion is eight years old [this was in 1999], with no recession in sight. With fewer recessions, there are fewer opportunities for typical value stocks to shine. Low inflation also works against value investing."
THE VETERAN SLUGGERS
Could the furor surrounding value have occurred because a generation raised on instant gratification couldn't deal with value-specific time frames? In fact, over extended periods of 20 years or more, value invariably beats growth. From 1946 to 2000, according to the research firm Ibbotson, value stocks bested growth stocks 15.4 percent to 11.5 percent. Put another way, $100 invested in value stocks in 1946 would have been worth $266,544 by 2001, compared to only $39,681 for growth stocks. Yet go back only 5 years, to 1996, and growth and value dash forward in a dead heat, with a 15.3 percent annualized increase for growth and a 15.1 percent rise in value securities. It only takes 10 years for value to overtake growth; by then, value has a 15.4 percent annual increase and growth stocks have slipped to 14.6 percent.
Those who accused Miller of changing his stripes seemed insufficiently aware that the mission, the aspiration, the dream of value investors is to buy stocks that show the promise of growth. Clearly, all investors share this goal-to buy something now that will be worth more later. But value investors only want these stocks when they can be snatched up at a price comfortably beneath their intrinsic, or true, value. Given some of his choices, it was difficult for cynical observers to imagine Miller in the company of other great, revered, enduring value investors such as the late Columbia University professor and author Benjamin Graham, Warren Buffett of Berkshire Hathaway, William Ruane of the Sequoia Fund, Sir John Templeton of the Templeton Funds, or John Neff, retired from Windsor Funds. And, in fact, Miller doesn't exactly fit that mold. The difference between the various value practitioners-then and now-is how they make their choices and how long they're willing to wait for rewards.
Money manager and author, Robert Hagstrom, says that among investment gurus Miller has much in common with Buffett's curmudgeonly partner, Charlie Munger, who spent his early investment years combing every possible investment situation, shopping for bargains and overlooked possibilities. Later, Munger changed his approach. He decided deep value purchases took too much time to come to fruition, caused too much psychic pain. Better to pay a little more for solid value and sleep well at night without fears that your big investment might flip belly up.
GROWTH VERSUS VALUE
Even writers who should have known better were befuddled by Miller's approach because while they admired his accomplishments, they felt they couldn't find an easy niche for him. Barron's described Miller as an investment manager to whom "the investment muse speaks in a mysterious fashion, and one that has led him both to excellent results and a style that resists categorization."
Nevertheless, perhaps due to his years of studying philosophy, Miller is sanguine about being misunderstood.
"I attribute it to the inability of people to understand long-term investing. 'Growth' and 'value' are labels that people use to try to categorize things," he said. "If you look at Morningstar's investment-style grid, we have migrated through the whole spectrum. Yet this fund has invested the same way for 15 years."
From its inception in 1982 to 2001, Legg Mason Value Trust has had an average annual total return of 18.24 percent. Originally Miller managed the fund under the tutelage of respected veteran money manager Ernie Kiehne.
Continues...
Excerpted from The Man Who Beats the S&P by Janet Lowe Excerpted by permission.
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Introduction.
1. Bill Miller: The Go-To Guy for New Economy Value Investing.
A Way of Thinking.
The Art of Valuation.
Portfolio Management.
New Economy Valuation.
The High Tech and Regulation in Brief.
Old- Economy Valuation.
Conclusion.
Appendix 1: Legg Mason Value Trust Fund Holdings.
Appendix 2: Bill Miller and Legg Mason Mutual Funds Chronology.
Appendix 3: Web Addresses.
Appendix 4: Charts.
Notes.
Glossary.
Suggested Reading.
Index.
But Bill Miller, manager of Legg Mason's successful Value Trust, maintains that value can be found anywhere, even in high-tech. The value approach offers principles; it does not give lists of acceptable industries and unacceptable securities or sectors of investment. His approach makes sense. After all, if value principles are indeed principles, they should apply to any security. If you can dig up sufficient, appropriate, and trustworthy data, you should be able to evaluate any potential investment. If that weren't true, we'd all be stuck in the past.
Miller's $11.6 billion Value Trust is the only diversified fund to beat the Standard & Poor's 500 for 11 years running. In the past 9 years, he has achieved an average annualized return of 27.7 percent, putting him far out front of most value managers.
This remarkable record was achieved by blending both traditional and nontraditional value stocks. By focusing in on Waste Management Inc. when it was struggling with internal management problems and deeply out of favor with investors, Miller was following the pattern set by Buffett and other contemporary value investors. By evaluating and taking strong positions in America Online and Dell Computers, Miller added a new, courageous chapter to the value investing history book.
Interestingly, Benjamin Graham, the father of value investing, often took daring positions in nontraditional securities. It's just that emerging industries during his peak years looked very different from emerging industries today. And accordingly, Buffett has never said that it is against the value investing rules to buy high-tech. Rather, he has said that he avoids technology stocks because he doesn't understand them. He prefers to stay within his circle of competence. Through Miller's studies at the high-minded Santa Fe Institute and with the help of his brainy staff, he has placed technology within his circle of competence.
Writing this book was a challenge. It wasn't always easy to get Miller to explain his process and principles in simple language. One of his comanagers warned that it would be a mistake to try to reduce Miller's principles to bullet points or slogans. They are much more thoughtful and complex than that. Even so, some of his notions can be rendered easier to understand, and that was the goal of The Man Who Beats the S&P. I've interviewed the people who influenced Miller's thinking and those who work with him, and I've prepared charts that help the reader follow Miller's train of thought.
The low-keyed, soft-spoken Miller is an interesting example of how investors can take the value principles, give them a personal twist, and end up beating their investment benchmarks. Miller is a role model for investors who wish to learn to recognize value in the new and emerging markets of this new economy. (Janet Lowe)
Overview
"Janet Lowe's summary of Bill Miller's incredible investment record and its origins are a must read for all serious investors."
-Mason Hawkins, Chairman and Chief Executive Officer Southeastern Asset Management, Inc. and the Longleaf Partners Funds
"Bill Miller combines sophisticated analysis with an open mind and a healthy dose of common sense that is enormously refreshing. Anyone who has an interest in investing should find Miller's approach to stock picking a fascinating and ...