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Archive for the ‘Bill Miller’ Category

More On The Great Optimists

Having mentioned grounds for optimism in the equity market in my last post, it is striking that the markets have perked up suddenly in the last 48 hours – no more than a happy coincidence, I fear, as for now the markets remain in their trading range and are merely reacting to individual items of  economic or political news that by their nature have little in the way of reliable or enduring meaning. The tug of war between inflationists and deflationists, and between double dippers and equity bulls, goes on, and most likely will do for some time.

The FTSE All Share chart, for instance, continues to trade in a band around its 200 day moving average, which itself is struggling to find a new direction. It is difficult to read anything into this lack of direction other for the moment  than that it is still consistent with either school of thought being ultimately proved right. At some point we will witness a breakout that gives a more positive clue as to where the markets are heading.

It was interesting to see the Financial Times reproducing Bill Miller‘s positive take on large cap US stocks in the paper yesterday. These comments in fact originally date back to his quarterly market commentary written more than a month ago, something I logged at the time. Bill is one of the professional investors I was referring to in the last post, and someone whose views I have followed for a long time, but I could name several others. Having performed very badly through the credit crisis, and misread  the last bear market completely, such is the way of the markets that few probably take much notice of his comments any more – which doesn’t mean he is wrong, merely out of favour.

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Written by Jonathan Davis

September 2, 2010 at 2:57 PM

A Positive Feel About Equities

While forecasting the market’s behaviour for the year ahead is a mug’s game, some good reasons are emerging for thinking that the recovery in the equity markets could have further to run in 2010. My most recent column in the Financial Times picks up on this theme, with reference to a recent visit to London by Bill Miller of Legg Mason.  The key point to note is that while many pundits are now belatedly talking bullish (normally a worrying sign), investors collectively are still not acting that way. Of course it will turn when the bond market finally seizes up, as all bets will then be off. In my view, however,despite the sudden strength of the dollar, we are not at that point yet. There is bound to be an early correction in 2010, but the year as a whole could easily accomnmodate a further 10%-15% rise.

A few years ago it was standing room only at the Savoy Hotel when Bill Miller, the celebrated manager of the Legg Mason Value Trust, came to London to impart his latest views on the market. While on his way to 15 successive years of outperforming the S&P 500 index, a feat that no other US fund manager has achieved in modern times, his fund rode a wave of popularity. As is the way, Miller’s every word on the markets was assured of a reverent hearing.

Last week, with the Savoy still out of action, Mr Miller made an altogether quieter appearance at the London Stock Exchange. Having misjudged the credit crunch, and seen his fund languish at the bottom of the performance league tables for many months, it was perhaps no surprise that only a handful of media turned up to listen to what he had to say.

Being both bullish about the equity market and happily out of step with majority opinion, Mr Miller’s views will struggle to gain traction for a while yet. At one point he compared the equity markets today with 1982, the year that the great bull market of the late twentieth century began. His point was not that the market conditions were identical at the time, but that if you looked at what analysts were saying about prospects in 1983, the list of potential negatives would have been as long  and sounded just as horrible as that which prevails today.

Could the analysts be just as wrong this time round? Being out of favour is no obstacle to being right. Indeed it is a badge of honour for the contrarian investor. Having earlier drawn attention to his fund’s troubles in this column, I feel it only fair to report that Mr Miller’s fund has outperformed the S&P index by 10% to date this year, reversing some at least of the losses of his annus horribilis in 2008. What is more, I am beginning to suspect that his judgment on equity markets, which proved to be so wrong during the crisis, will be proved to be right now that it is receding.

What are the arguments for thinking that the outlook for the equity markets is much better than the prevailing consensus? Reading across from valuation measures such as Tobin’s q and cyclically adjusted p/es, the market currently appears to be trading somewhat above fair value. If you take them at face value, estimates for the earnings of the S&P 500 in relation to the market’s level look unexciting.

But how good are those earnings estimates? Estimates are poor at the best of times, and particularly unreliable at turning points. Just as it took a long time for analysts to catch up with the scale of the decline in earnings in the immediate aftermath of the crisis, so too they have been slow to catch up with the improving trend since the recession ended earlier this year. In the second quarter of 2009, more than 75% of companies in the US came in with earnings that were ahead of analyst expectations.

At the same time it looks in hindsight very much as if corporate America, in common with investors themselves, reacted too sharply to the post-Lehman global financial crisis. The scramble to cut jobs, slash inventories and reduce debt has left many companies struggling to fill orders as demand starts to return. (Tim Bond of Barclays Capital makes a similar argument, pointing out that delivery times are currently lengthening, not shortening).

Another metric that Mr Miller points to is the ratio of expected earnings growth to GDP growth, which at around eleven times a “new normal” GDP growth estimate for 2010 of 2.4% is well above its historical average of six times. Yet he is of the school that believes that the scale of recovery in the US economy after recessions is typically proportionate to the severity of the preceding decline in output. As the US recession has been the worst since the 1930s, the scale and speed of the recovery is more likely to surprise on the upside than the downside.

If the historical analogy turns out to be correct, the implication is either that current earnings expectations are too high, or that GDP projections are too low. Mr Miller’s money is firmly on the latter. He expects technology, financials and consumer stocks to lead the stock market higher in 2010. IBM, he points out, has 100 years of earnings data, and is well known for the reliability of its earnings guidance. It is looking to continue growing its earnings at an annualised rate of 15% through next year. Yet its shares trade at a discount to the market, at a lowly 11x earnings.

The reality is that the future direction of financial markets is never a one-way, predetermined street. In a year’s time, if Mr Miller turns out to be right about the scale of the recovery in the economy and equity markets, as I suspect he may, those who have been left behind will surely conclude that they have allowed their judgment to have been impaired for too long by the lingering trauma of last year’s crisis. To put it another way, given a choice between betting that analysts’ forecasts are precisely right or that investor psychology is roughly wrong, the smart money rarely errs by choosing the latter.

Written by Jonathan Davis

December 16, 2009 at 11:13 AM

Bill Miller Joins The Bullish Camp

It is no surprise to me to see that Bill Miller, the long serving manager of the Legg Mason Value Trust, has been outperforming the market since the current rally began. Nobody’s performance has fallen further since the market cracked in 2007 – but good managers don’t become bad overnight, and he was bound to bounce back strongly.

In his latest quarterly letter to shareholders he reamins strongly bullish on the outlook for the stock market. Here is an extract:

“Where does that leave us? The exogenous risks — geopolitical upheaval, terrorism, pandemics — are always with us. The others, rapidly rising interest rates or commodity prices, or serious policy errors, look to have fairly low probabilities attached to them and do not presently pose a threat to the economy or to a continued rise in the market.

“I have not said anything about the risk of inflation, in part because it is remote over the next few years. But it is a common worry, and a constant topic of discussion. The issue arises because of the massive deficits being run now and for the next couple of years, and the inexorable growth of entitlements programs, which will drive debt-to-GDP ratios north of 100%, from the current level of around 65%, for the first time since World War II. Many believe we will have no choice but to inflate our way out of those obligations.

“I disagree and think the major threat remains deflation, not inflation. The U.S. government ran large deficits in the 1930s and even larger ones during World War II reaching nearly 40% of GDP. Yet except for a one-time rise in prices after wage and price controls were lifted when the war ended, there was almost no inflation for 30 years. Japan’s debt-to-GDP ratio is 170% now, and its problem is deflation, not inflation.

“Inflation can only arise if labor or business, or both, have pricing power. Labor is still around 70% of the cost of doing business, and there won’t be any inflation there with unemployment at 9.5% and rising. Capacity utilization is 68%, among the lowest in the postwar period. Businesses will have no pricing power until that number is at least over 80%, a long way away. If the so-called new normal is growth of between 1 and 2%, there will be no inflation.

“What about the idea that politically we will be unable to do anything but inflate our way out of our debts? To believe that is going to happen, one has to believe the Federal Reserve will collectively repudiate its objective of price stability. Since the Fed that allowed inflation to devastate the economy in the 1970s is seen as having failed in its mission, while Paul Volcker, who sent the economy into what was until now the worst recession in postwar history by raising rates dramatically to kill inflation, is seen as a hero, it seems at best a stretch to think a future Fed will deliberately pursue inflationary policies.

“Could it happen? Sure. Do we need to be watchful for any signs of an incipient inflation? Absolutely. But the prospect of any kind of inflationary risk to the stock market over the next couple of years is vanishingly small.

“Bull markets typically begin when the following four conditions are present: the economy is bottoming, profits are bottoming, the Fed is stimulating, and valuations are low. That’s where we are now. The path of least resistance, as Jesse Livermore used to call it, is higher”.

History records that all the best value managers, from Warren Buffett down, suffer unduly during bear markets. The evidence, for those who doubt this, is in Robert hagstrom’s books. As buy and hold investors with large indvidual positions and a concentrated portfolio, they are almost bound to do so. But that is also why they bounce back so strongly when markets rally.

You may think that Bill Miller’s current optimism is exaggerated, but it is on a par with the noises coming out from many other professionals with the same value bias. The odds that the market will go higher this year still look good to me. The fact that the economic news is still so bad does not contradict this thesis. It is a more a case of the brave reaping the highest rewards.

Written by Jonathan Davis

July 27, 2009 at 12:23 PM