Bill Miller's Secrets to Success
Bill Miller's $20 billion Legg Mason Value Trust fund returned 6% last year, beating the S&P 500 by 1.1 percentage points. Miller's win enabled him to extend his dominance over the benchmark index to 15 calendar years. So what is his secret for success? According to Bill Miller, " The answer, of course, is there is no secret; but there are some aspects of what we do that differentiate us from other investors, and from other value investors."
What are these aspects? He listed three:
1. "Our portfolio contains a mix of businesses, some of which we believe are cyclically mis-priced, and some of which we believe are secularly mis-priced. The former are often called value stocks, the latter growth stocks, not helpfully in either instance. Value investors rarely own so-called growth stocks because they are uncomfortable with doing the kinds of analysis and projections necessary to value them, especially when they involve high technology, or when they involve new business models such as Google. There is a lot of uncertainty in doing that, which means risk, and value investors think of themselves as risk averse. We believe we have an analytical advantage over more traditional value investors because we will look at such businesses, and over growth investors because our analysis of them is based on valuation, not some short-term factor such as whether they beat next quarter's earning's estimate, or whether guidance is raised or lowered. Our ability to properly price risk is our advantage over both types of investors."
2. "We average down relentlessly. Two things seem pretty clear to me: first, no one can consistently buy at the low or sell at the high (except liars, as Bernard Baruch said), and second, lowest average cost wins. We constantly strive to lower the average cost of our positions by buying more if and when the price drops. Throwing good money after bad, others call it. Many investors think a drop in the price of stocks they own is evidence they were wrong. We think of it as an opportunity to increase our implied rate of return by lowering our average cost. Someone once asked me how I knew when we were wrong to do that. When we can no longer get a quote, was my answer."
3. "We practice the Taoist wei wu wei, the 'doing not doing' as regards our portfolio, otherwise known as creative non action. We are mostly inert when it comes to shuffling the portfolio around, with turnover that has averaged in the 15 to 20% range, implying holding periods of more than 5 years. Many funds have turnover in excess of 100% per year, as they constantly react to events or try to take advantage of short term price moves. We usually do neither. We believe successful investing involves anticipating change, not reacting to it."
About Google and IBM:
"Was Google good value at $85 when it came public? Well, it appears so, since it is now trading at $436 a year and a half later. But when it came public it was universally panned as another internet hype stock with all the trappings of 1999's over-optimism. How about now, at $436? Is it worth as much as IBM? The market says it is, at least on the basis of simple equity capitalization. How can that be? IBM's earnings are more than Google's sales. We owned Google on the IPO and we own it now. We own IBM, too."
"Is the largest financial services company in the world, Citigroup, really worth a substantial discount to the average company based on its price earnings ratio, despite having substantially better returns on its equity and a powerful global presence? The market says yes. We disagree and that is why we own it."
"How about Kodak? Doesn't everyone know chemical-based film is going away? How could you own that? We are asked that all the time. We are Kodak's largest shareholder."
About Tyco and Enron:
"Sometimes we are right when we think the market is wrong, and sometimes we are not. One never knows until later, and then hindsight bias colors the analysis. It always appears obvious in retrospect. We were right, for example, to buy Tyco under $10 when it was involved in an accounting scandal. We were wrong to buy Enron when it was also involved in such a scandal. Our analysis of Enron was excellent, in my opinion, despite our investment being unsuccessful. Process and outcome are two different things."