June 12, 2002 – Declaring that most major market sectors are near fair value, Bill Miller, manager of Legg Mason Value Trust (LMVTX), believes that companies undergoing accounting scrutiny currently offer the best investment opportunities.
Miller, who sees “no specific advantage” in growth versus value right now, thinks the most promising market anomalies are in companies whose balance sheets are being challenged, such as Tyco International (TYC) and Qwest Communications Intl (Q). Tyco’s upside potential over the next year — which he believes is 250% to 300% — is such that Miller feels that there’s “no name in the portfolio right now that I wouldn’t sell to buy Tyco.” Miller believes Tyco’s problems center on “disclosure violations,” which don’t reflect strong cash flows generated by several operations. Miller noted that the SEC looked at Tyco’s accounting in 2000 and found no major problems. Despite his optimism, Millers said, “we don’t know what the facts are at Tyco now.”
While bullish on some tarnished companies, Miller highlighted the importance of corporate governance for the broad market at a New York press briefing yesterday to mark the twentieth anniversary of the $11.3 billion Legg Mason Value Trust. Pointing to studies showing that companies with “best practices” produce higher returns than those with poor practices, Miller said he’s been raising his concerns about accounting standards and executive compensation, including stock options, with the managements of several companies and found “a surprising willingness to talk about best practices.” Corporate governance is important, according to Miller, because “bad practices transfer wealth from owners of businesses to managements of businesses.”
More companies are likely to pay out dividends as a result of balance sheet scrutiny, Miller feels, since dividends are “the best validation of account statements.” Miller also calls recent New York Stock Exchange actions on corporate governance “the right step forward,” but he feels that the SEC “could be more active than it currently is” in promoting balance-sheet integrity. Miller said SEC moves have been limited because the Bush administration has said that the markets should sort out accounting questions.
In running Legg Mason Value Trust, the only equity fund to beat the S&P 500 in each of the past 11 years, Miller manages a concentrated portfolio of about 35 companies whose underlying business values he believes are not recognized by the market. Miller took over Value Trust in 1990. While the fund trails the S&P 500 this year through yesterday, -12.5% versus -11.2%, Miller said that 60% of the fund’s holdings have held up better than the index so far this year. He notes, however, that only 33% of the fund’s holdings did better than the S&P 500 in 1999, a “good” year for the fund.
As of May 31, Legg Mason Value Trust emphasized financials (32.2% of the fund), consumer discretionary (23.3%), and health care (13.2%). Miller is bearish on technology, the leading sector of the 1990s, since he believes it’s rare for a decade’s leading sector to repeat its gains in the following decade. Although he holds Qwest, Miller cautions that “telecom may not come back because the structure of the industry may not allow for high returns.”
Miller is currently betting on selected stocks with low P/Es, including Waste Management (WMI), General Motors (GM), and Eastman Kodak (EK), although he feels that most companies with low P/Es show lower returns on equity than the broad market. Because they’ve been unfairly tarnished by accounting questions, Miller also likes General Electric (GE) and Intl Bus. Machines (IBM).
Based in Baltimore, Legg Mason, Inc., whose operations include Legg Mason Funds Management, Royce & Associates, and Brandywine Asset Management, oversees $177 billion in total net assets.