Bill Miller Sees a Buying Opportunity

On Nov. 19, Bill Miller of Miller Value Partners published notes on his third-quarter 2018 investor call.

The last time I updated you on Miller, he saw a bull market without end. While he hasn’t switched gears much, he is faced with the reality of current markets wildly gyrating. There are four main subjects: market observations, the government deficit, tariffs and interest rates in relationship to market price-earnings ratios. I’ll dive into and discuss the most important points. To see his full discussion, visit the Miller Value site.

Market observations

Miller isn’t just buying based on intrinsic value, but takes a multipronged approach to investing. He also evaluates what other market participants expect to happen. I think he also reviews price action perhaps to that same end. His process is different from what most value investors do, but that’s part of what makes Miller’s thinking and portfolio quite unique.

Miller observed that:

• Corporate profits growth up more than 20% this year.Â
• Multiple compression at the broad market and individual stock levels.
• The health of the U.S. economy is outstanding.

Miller believes the economy is outstanding due to household formations growing, low rates, solid wage growth, great corporate profits and low unemployment, which it is hard to argue against. He also expects further earnings growth.

Miller believes the market recently corrected because Federal Reserve Chairman Jerome Powell started talking about the neutral fed funds rate being much higher. That caused market participants to really worry about tariffs, the Chinese economy, the upcoming election, the Mueller investigation and the Fed tightening too much.

But Miller isn’t worried. I’ve picked a couple of quotes to illustrate:

"...Looking at earnings and real GDP growth regressed against the long-term history of the U.S. economy – market would on average be about four years away from the next recession. If statistics hold, shortest time would be about two years from a recession..."

"...Overall, if you want to put money to work in equities, we think this is an excellent time to do it..."

The debt deficit

Miller isn’t as worried about the deficit as most. He argues it has been presented as a problem before and it never did cause a collapse or recession in the U.S. The dollar actually soared while the rest of the financial system came close to a collapse. Being a reserve currency, the dollar is unique in that it doesn’t perform the way normal currencies do.

Nobody knows whether the deficit will ultimately become a problem or not, but the bear argument here is that the U.S. is risking the dollar's status as a reserve currency by pushing too far out on a limb through fiscal stimulus and a lax monetary policy. Ultimately, Miller choses to sort of dismiss this fear because it is too hard to accurately predict what “will happen.” Likely that means he defends against it by reacting to “what actually happens.” A strategy that is more likely to work if you are in the markets every day.

Tariffs

"Tariffs hit very unevenly and where the tariffs were designed to help U.S. industries, we haven’t seen that reflected in stock behavior."

"Concerns over China and how the Chinese government will respond – they have shown no willingness to 'cave-in' to the things the president wants."

Miller doesn’t like tariffs very much, but doesn’t seem to view them as a lasting or escalating threat. I’ve always regarded him as an optimist for better or for worse. He’s much more concerned with a large drop in the equity markets by 10% or 20% as it will change sentiment throughout the economy. Dropping equity markets could even impact next year's earnings, according to Miller.

This argument seems to be right out of the reflexive markets theory playbook, as written by George Soros (Trades, Portfolio). The problem I have with this kind of worrying is that by the time the market is down 15%, it’s a bit late.

This captain would like to have his shields up before the first wave of lasers hit.

Interest rates and the market’s price-earnings ratio

Miller on market multiples:

"When Alan Greenspan was the Fed chairman, he went by the so-called Fed model, which was essentially a rule of thumb model where basically the earnings yield on the market should be roughly equal to the yield on the long Treasury. If that were the case now, the earnings yield on the current market should be at 3.5 – 4.5% to equal that of the Treasury or about 25x earnings. The idea is that the Treasury’s returns are static and don’t grow, but the earnings on the market do grow, therefore the equity risk premium is paid for or covered by the earnings growth to the market."

Miller argues the market or S&P 500 (SPY, Financial) is fine or undervalued even compared to Treasuries. I contend that’s possible. Especially because I couldn’t dislike longer-dated Treasuries much more than I do right now. But there are options besides stocks and bonds, so perhaps these should be explored as well.

In summary

Miller seems to believe the selloff of late is misguided. He views it as a buying opportunity. I do think the volatility opened up buying opportunities in pockets of the market. If the markets fall through and we go down another 10% to 20%, however, that may cause the economy to slow down and turn into a self-fulfilling prophecy.

From his 13-f filing, his top five positions are:

1. Amazon (AMZN, Financial)
2. Endo International (ENDP, Financial)
3. RH (RH, Financial)
4. Bausch & Health (BHC, Financial), formerly known as Valeant Pharmaceuticals
5. One Main Holdings (OMF, Financial)

Disclosure: Author is long BHC.