Wall Street Profiles: Bill Miller, Legg Mason Value Trust

In this second installment of my recurring series on famous Wall Street investors, I profile Bill Miller, the former manager of the Legg Mason Value Trust mutual fund. His rise and subsequent fall show just how difficult it is to consistently beat the market, even for the best investors.

Biography and Career

Early Years

Bill Miller was born in North Carolina in 1950, and graduated from Washington and Lee University in 1972. He began his investment career at Legg Mason in 1981. In 1982, he became a fund manager for the Legg Mason Value Trust mutual fund.

Legg Mason Value Trust and The Streak

Bill Miller became a household name on Wall Street in the late 1990s and early 2000s because of an incredible winning streak.. His mutual fund, Legg Mason Value Trust, beat the S&P 500 for 15 consecutive years from 1991-2005. Assuming that approximately 75% of mutual funds underperform the S&P 500 each year, the odds of achieving Bill Miller’s feat strictly by chance is less than 1 in a billion. While many market observers could have criticized Miller’s performance as simply riding the coattails of the incredibly strong bull market of the 1990s, his outperformance during the tech crash and bear market of 2000-2002 silenced those critics.

As a result of this streak, investors piled into the Legg Mason Value Trust. The fund started with a meager $6.8 million in 1982 but grew to a behemoth $20 billion fund in 2007, the year after the streak was broken. With the success of the Value Trust, he started a second fund, the Legg Mason Opportunity Trust, in 1999.

The Fall of Legg Mason Value Trust

Unfortunately, once his streak was broken, Mr. Miller was unable to consistently beat the S&P 500. The financial crisis hit the Value Trust very hard, and his overexposure to financial stocks in 2008 led the Value Trust fund to lose 55% of its value, compared to a 38% loss for the S&P 500. He did rebound in 2009 with a 40.6% return, compared to a 26.4% return for the S&P 500.

But after continued underperformance in 2010 and 2011, he stepped down as portfolio manager of the famed Legg Mason Value Trust in 2011. After a 15-year winning streak from 1991-2005, he underperformed the S&P 500 in 5 of his last 6 years at the helm. Once having $20 billion under management in 2007, the fund only managed $2.8 billion at the time of Mr. Miller’s exit in 2011. His successor at the Value Trust, Sam Peters (later joined by Jean Yu) have not fared much better, having underperformed the S&P 500 in 4 of their first 5 years (2012-2016). In spite of the strong bull market, the Value Trust has continued to lose shareholders. It now only manages $2.4 billion as of February 2017.

Overall Performance of Legg Mason Value Trust, 1982-2017

So after nearly 35 years, how has the Legg Mason Value Trust (now called the ClearBridge Value Trust) performed? According to their fund website, $10,000 invested in April 1982 would now be worth nearly $475,000, a 4,650% return. Pretty impressive. However, according to this calculator, the S&P 500 (after reinvesting dividends) has returned 4,623% over the same period. In spite of beating the S&P 500 every year (even after fees) from 1991-2005, the Value Trust has only matched the performance of an S&P 500 over the 35-year life of the fund.

To give Mr. Miller credit, it’s impressive how well he has done given the high fees of the Value Trust. Currently, the Value Trust charges a 1.77% expense ratio along with a sales charge of 0.95%. So Mr. Miller beat the S&P 500 by a decent margin, before fees. But he hasn’t beaten the market by enough to reward his investors with significant outsize returns over a simple S&P 500 index fund.

Investment Philosophy: Value Investor

Bill Miller is a value investor. By definition, this makes him a contrarian who takes positions that are not necessarily favored by the rest of Wall Street. His definition of value investor is more nuanced than your typical investor. He doesn’t necessarily use the traditional value metrics such as a low P/E ratio or a low price/book ratio to find value stocks. Instead, he simply tries to determine if a stock is undervalued and will go up in the future. This means he is not afraid to invest in tech stocks. He bought Amazon in the late 1990s and traded Netflix to big profits. But being contrarian is a double-edged sword. He was very wrong on financial stocks in 2008, contributing to his big losses that year.

Takeaways

Value stocks are associated with higher returns, but also higher risk compared to growth stocks

Bill Miller is a value investor, and academic studies have shown that value stocks have historically done better than growth stocks. This is most famously demonstrated by Eugene Fama and Kenneth French in the Three-Factor model. Value stocks is one of the factors that were shown to outperform (small-cap stocks, and high-beta stocks are the other two factors). Whether these factors will continue to outperform in the future is up for debate.

It is hard to know who the good fund managers are

Picking fund managers is just as hard, if not harder, than picking individual stocks. Almost everyone on Wall Street has a great resume and will sell you their track record. Who could argue with Bill Miller’s track record from 1991-2005? But investors who put their money with him in 2006 underperformed the S&P 500 in 9 of the past 11 years.

Some mutual funds can become too big to succeed

Sometimes large banks are referred as “too big to fail.” If they were ever to run into financial difficulties, the government would have to bail them out. A large bank failing would cause too much disruption to the global financial system to be allowed to fail. The case of Bill Miller’s Legg Mason Value Trust may be an example of a mutual fund that become “too big to succeed.” As a value investor, it is easy to have one, two, or even ten good investment ideas. But to invest $20 billion in value stocks, as Mr.. Miller had to do in 2007, may be too difficult for even the most saavy investors.

Even great fund managers lose their edge after a while.

It’s possible that Bill Miller lost his touch. Maybe the investment philosophy that lead him to such superlative returns from 1991-2005 stopped being profitable over the past 10 years. Even Warren Buffett is only matching or slightly lagging the S&P 500 over the past 10 years, so even the most legendary investors won’t always beat the market.

Every good streak requires a little bit of luck

While beating the S&P 500 for 15 years is nearly impossible by chance alone, Bill Miller needed some luck during his winning streak. Just like Joe DiMaggio’s famous 56-game hitting streak, it takes a combination of skill and luck to create such long winning streaks.

Investors are like sports fans – what have you done for me lately?

Investors chase returns. Money flew out of the Value Trust as returns soured in the late 2000s just as fast as it poured into the fund in the late 1990s and early 2000s. Sports fans are the same way. One recent example would be how the Leicester City soccer team fired their coach less than 1 year after winning England’s Premier League in one of the most improbable upsets in sports history.

Further Reading

1. Legg Mason’s official page of the Legg Mason Value Trust (now ClearBridge Value Trust)
2. Bill Miller’s Wikipedia biography
3. Investopedia’s profile of Bill Miller
4. The WSJ article reporting Bill Miller’s departure as manager of Legg Mason Value Trust, and Bloomberg article reporting Bill Miller’s departure from Legg Mason
5. An interesting take on Bill Miller’s aggressive investing style

What do you think? Would you invest in Bill Miller’s mutual funds in 2017? Was his 15-year winning streak purely luck, or was their some genius behind it?