Wall Street Journal: The Rise and Fall of Legg Mason's Bill Miller

Interesting article from the Wall Street Journal about the (once?) legendary Bill Miller - he who famously beat the S&P 500 15 years in a row. We've had some serious disagreements with his picks just as his call for a bottom in the markets last spring, his diving head first into housing stocks [Apr 9: Bill Miller is #596! Ouch], and most famously increasing his stake in Freddie Mac when we were saying "it's going to zero." [Aug 13: Bill Miller Continues to Boggle Me - Increasing Stake in Freddie Mac (FRE)] As always, the disclaimer that everyone makes mistakes and this year has made almost everyone look quite dumb. But it's not been a 1 year situation here... and Bill Miller was Ken Heebner (in aura) before Ken was famous. What is amazing is the picture below - after having a huge outperformance versus the S&P 500 built over years, he has now returned to a point where the return is no different than a Vanguard S&P 500 fund. What is sobering is how years of hard work are *poof* in a relatively short amount of time. But it paints the picture we repeat often - the #1 rule of making money, is not losing money. Without capital you are helpless when things eventually turn around.

(click to enlarge)

Hopefully some whippersnapper hot shot blogger is not writing stories like this about me in 2032. Kids! The irony of life is people who foresaw much of this cannot find capital to run a mutual fund, while others who lost $10 Billion+ can. Ah, life.

• William H. Miller spent nearly two decades building his reputation as the era's greatest mutual-fund manager. Then, over the past year, he destroyed it. Fueled by winning bets on stocks other investors feared, Mr. Miller's Legg Mason Value Trust outperformed the broad market every year from 1991 to 2005. It's a streak no other fund manager has come close to matching.
• Mr. Miller was in his element a year ago when troubles in the housing market began infecting financial markets. Working from his well-worn playbook, he snapped up American International Group Inc., Wachovia Corp., Bear Stearns Cos. and Freddie Mac. As the shares continued to fall, he argued that investors were overreacting. He kept buying.
  
• Many Value Trust holdings were more or less wiped out. After 15 years of placing savvy bets against the herd, Mr. Miller had been trampled by it. This meltdown has provided a lesson for Mr. Miller and other "value" investors: A stock may look tantalizingly cheap, but sometimes that's for good reason.
• "The thing I didn't do, from Day One, was properly assess the severity of this liquidity crisis," Mr. Miller, 58 years old, said in an interview at Legg Mason Inc.'s Baltimore headquarters. Mr. Miller has profited from investor panics before. But this time, he said, he failed to consider that the crisis would be so severe, and the fundamental problems so deep, that a whole group of once-stalwart companies would collapse. "I was naive," he said.
• A year ago, his Value Trust fund had $16.5 billion under management. Now, after losses and redemptions, it has assets of $4.3 billion, according to Morningstar Inc. Value Trust's investors have lost 58% of their money over the past year, 20 percentage points worse than the decline on the Standard & Poor's 500 stock index. The fund is now among the worst-performing in its class for the last one-, three-, five- and 10-year periods, according to Morningstar.
• Mr. Miller's picks read like a Who's Who of the stock market's biggest losers: Washington Mutual Inc., Countrywide Financial Corp. and Citigroup Inc.
• Questions now swirl about whether Mr. Miller will quit or be replaced. He says his group's board of directors will decide whether he stays or goes, but he's not planning on calling it quits. Mark Fetting, Legg's chief executive and chairman of the board that oversees Mr. Miller's funds, said he supports Mr. Miller and his plans to improve performance.
• All-or-nothing bets would come to define Mr. Miller's style. He usually holds about three dozen stocks at a time, compared with a hundred or so in a typical mutual-fund portfolio. He has welcomed negative sentiment about companies, which has let him buy stocks as their prices fall, "averaging down" the per-share price he pays. The strategy can net him big stakes in companies -- an enviable position if shares rally and a sticky one if he needs to sell.
• During the savings-and-loan crisis in 1990 and 1991, Mr. Miller loaded up on American Express Corp., mortgage giant Freddie Mac and struggling banks and brokerages. Financials eventually made up more than 40% of his portfolio. He looked wrong at first. But these stocks eventually propelled Value Trust to the top of the performance charts. In 1996, Value Trust gained 38%, outpacing the S&P 500 by more than 15 percentage points. By then, Mr. Miller was loading up on AOL, computer makers and other out-of-favor tech stocks.
• His good bets more than made up for the bad. Between 1998 and 2002, 10 stocks in the Value Trust portfolio lost 75% or more. Three, including Enron and WorldCom, went bankrupt.
• As his winning streak grew, Mr. Miller's name was often preceded in press reports with the word "legendary." He was mentioned alongside the likes of Fidelity's Mr. Lynch.
• In 2006, Mr. Miller's outperformance streak finally broke when he missed out on big gains in energy stocks. His performance suffered again in early 2007, thanks to losses in home-building stocks he had bought following signs of trouble in the real-estate market.
• In the third quarter (2007), he bought Bear Stearns. In the fourth quarter, as financial stocks fell, he took positions in Merrill Lynch & Co., Washington Mutual, Wachovia and Freddie Mac. Explaining his moves to his shareholders in a fourth-quarter update, he compared the period to 1989-90, when he had also bought beaten-down banks. "Sometimes market patterns recur that you believe you have seen before," he wrote. "Financials appear to have bottomed."
• In 2008, Mr. Miller continued to accumulate Bear Stearns. At a conference on Friday, March 14, he boasted that he had bought just that morning at a bargain price, north of $30 a share -- down from a recent high of $154. Bear Stearns collapsed that weekend.
• During the second quarter (2008), he added to Freddie Mac and insurer AIG. In an April letter to shareholders, he wrote that the rebounding stock and bond markets suggested a corner had been turned. "The credit panic ended with the collapse of Bear Stearns," he wrote. "By far the worst is behind us."
• By the end of June, Mr. Miller's group held 53 million Freddie shares -- about 8% of the company. (this was disclosed in August at which time I had to write the post above- unfortunately Miller does not read the blog) Financial stocks continued to fall though the spring and summer. Many value investors, such as John Rogers at Ariel Investments, sold or at least stopped buying the sector.
• The risk, as Mr. Miller saw it, was that the housing market could perform worse than he expected. But he dismissed talk that the government could nationalize Freddie and Fannie. On the weekend of Sept. 6 and 7, the Treasury announced it was taking over Fannie and Freddie, rendering private shareholders' stakes nearly worthless. On Monday, shares in Freddie, which had started the year at $34 and entered the weekend at $5, were trading at less than $1. A government takeover was the one outcome for which Mr. Miller hadn't prepared. [Aug 18: The Heat is On: Fannie Mae and Freddie Mac]
• The fund manager says he's adjusting his stock-picking screens for a new world, in which he expects investors to be risk-averse for several years. He's re-reading a biography of John Maynard Keynes, focusing on the famed economist's experience as a money manager during the 1930s. He says he's scouring markets for industry-leading companies with big dividends. He thinks there are also opportunities in battered corporate bonds. But improving performance will take a long time, he says. "I can't accelerate it."

[Aug 5: Bill Miller "Toughest Market I've Seen"]