Bill Miller 2nd Quarter 2002 Market Commentary
We had a dreadful second calendar quarter. Since the end of the quarter, the market's decline has accelerated, with the popular averages falling an additional 15%.
Over the past year, the S&P 500 has dropped 30%. This twelve-month decline exceeds the largest twelve-month decline in the entire decades of the 1980s and the 1990s. In the two years ending last week, the market is down over 40%. This is an extended bear market by any measure, the worst most investors have ever seen. Few money managers active today were in the markets during the 1973-74 bear market, which saw valuations drop to levels last seen in the Great Depression. From the peak in March of 2000 to the low on July 23, the market's decline equaled that of 1973-74 in magnitude and exceeded it in duration.
Investors are getting worn out and even experienced long-term investors appear to be rethinking their commitment to equities and re-examining their asset allocations. I have no idea, nor does anyone else, when and at what level the decline will end. The most reliable - and none are very reliable - measures of investor sentiment and activity are consistent with past major bottoms. I believed, wrongly, that the lows of September 21 of last year would hold, and I think that would have been right had we not been deluged with scandals beginning with Enron, and continuing with and encompassing a host of well-known companies.
Valuations have now reached a level on many individual stocks that I think are compelling. It is not surprising that investors are fleeing the market and putting their money in cash and bonds. We saw the same behavior after the 1987 crash. Most people behave the way most other people behave. That is why everyone was buying in 2000 and why they are selling today. July's decline into the July 23rd low was the eighth worst ever, exceeded only by the 1987 crash and a few months during the Great Depression. Such times, not surprisingly, have been exceptional buying opportunities. The overwhelming majority of market participants react to events instead of anticipating, which is why so few achieve even a market rate of return over long periods of time.
The major indices have dropped to levels last seen in 1998 during the panic bottom that was created by the failure of the hedge fund Long Term Capital Management. Anyone who is now selling stocks at multi-year lows in the third year of a bear market after the worst period in 15 years might want to consider whether this is likely to constitute a successful investment strategy. The economy is growing (albeit modestly), earnings are on the rise, unemployment is low, consumers are spending, productivity growth is strong, the Fed is supplying liquidity, and stocks are once again cheap. The behavior of the average investor has created an opportunity for the enterprising investor to profit, in my opinion. There is a crisis of confidence, but it is not a secret. One of the first maxims of investing is: if it's in the papers, it's in the price.
There has been progress in trying to rebuild investor confidence. Leading companies have begun to take the lead in making their income statements better reflect all relevant costs. Auditors are sure to be more vigilant after observing how quickly Arthur Andersen disappeared. The SEC has mandated that CEOs personally certify the integrity of their numbers, and many have already done so. Current corporate practice concerning options accounting is sub-standard, but it will improve. In any case, investors can make the appropriate adjustments with the information available. The U.S. accounting system isn't perfect, but our disclosure and transparency sets the standard.
Prices hover at multi-year lows, as belief is in short supply and risk appears high. Before he was 30 years old, John Maynard Keynes was astute enough to observe:
"What would be a risky investment for an ignorant speculator may be exceptionally safe for the well-informed expert. The amount of risk to any investor practically depends, in fact, upon his degree of ignorance respecting the circumstances and prospects of the investment he is considering."
- Bill Miller, CFA
August 5, 2002
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