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Sep 28, 2016

Bill Miller's Interview with Realtid

Bill Miller

Realtid: You have described yourself as a value investor and in some recent interviews you have mentioned that stocks are very cheap - where are you bullish and where are you bearish at the moment, seeing as the stock market has been described as quite expensive by some?

Bill Miller: In any given market there are usually companies that are underpriced and that are overpriced. Taking the market as an aggregate, it’s significantly underpriced relative to the alternatives, specifically bonds and cash. If there is a bubble it’s in bonds or cash, since the zero rate of returns guarantee losses after inflation. And the stock market is I think very attractive relative to that.

Now it’s expensive compared to its long term history, but bonds had a much higher yield then. The overpriced stock market areas are basically the bond-like areas, the low volatility names, utilities, telecom, consumer staples, things perceived to have stability and safety. They’re expensive relative to their long term history. On the other hand things perceived as risky tend to trade cheap relative to their long term history. This is the aftermath and residue of the financial crisis, where people took much more risk than they could handle. As a result people are very risk averse today and risk phobic. Since 2009, that has presented an opportunity in equities to own the risk-on names. With some exceptions like 2011 and first half of this year, you have done well by doing so.

In that category, the names that I think are high quality and relatively low volatility like Apple (AAPL). The home building industry in general is cheap and trading with growth rates, over the next three to five years it’s trading at least double the markets growth rates in earnings, but trading at a dramatic discount to the overall market.

So housing is one of the industries that hasn’t recovered to its pre-crisis levels.

We like the financials. Wells Fargo (WFC) is the current whipping boy, but that’s almost totally psychological rather than economic. Just to give you an idea - the total dollar amount of all the charges for the phony accounts - what the customers pay in aggregate - is about 2.5 million dollars. It’s trivial and the CEO is already giving up 40 million of pay. There is the psychological effect and the economic effect, and that can set up a big difference in how the stocks trade.

So we like JP Morgan (JPM), we like Bank of America (BAC) and we like Citi (C). We think those are cheap and there is a sub-prime lender called One Main Financial (OMF) which can double in the next two to three years.

And very controversially we like airlines. Historically that has been a terrible industry to invest in, almost uninvestable. On the other hand that is history. Since the airline consolidation began the industry has consolidated and is now very profitable. The airline stocks we bought a few years ago have done well, but they have done poorly this year and last. Even though we have big profits in them people don’t like them now because the stocks have gone down. We think they are very attractive now and that they are worth probably 50 percent more than they are trading at.

Are these your biggest positions at the moment?

Yes. Amazon (AMZN) is our biggest position, Apple is one of the biggest, the home builders and airlines along with that pretty much brings up our top ten positions.

So there is room for growth in these businesses. Is the US economy growing at a strong enough level to give these companies a boost?

All of these companies don’t depend linearly on the real growth rate of the US economy. Each of them has underlying drivers. For housing for example, there is a shortage of new homes relative to long-term historic norms. That leads in essence to a supply and demand imbalance. More demand than supply means home prices are rising considerably faster than the inflation rate and you can borrow to buy homes at the lowest rates in history. It sets up a positive dynamic for the housing industry quite apart from if the US economy grows at zero percent or three percent.

What is your take on the US economy at the moment? Are you positive about the long-term prospects?

Paradoxically the US economy is growing faster than it can long-term, because unemployment keeps falling, which is a good thing if you’re not in full employment. We’re already seeing evidence of wage inflation. All of that is good for right now but you can’t have wage inflation greater than economic growth for very long before the economy stagnates. You can’t have unemployment dropping to levels where there is shortage of labor because that creates an imbalance. It’s been a disappointing economic recovery where the process to get corporate profits to record levels has been longer than anticipated, but for the US economy to grow faster than two percent right now would be very difficult and not necessarily desirable in the short term.

Rate hike - many have followed what the Fed is doing. Is this a big concern for you in terms of your investment decision making?

I think the Fed’s policies and action are important to have as an input to how we think about the economy. I happen to believe that since 2007-08 the Fed has done a masterful job in keeping us out of another depression. I think Mario Draghi for example also has done a masterful job. That said, a year ago when Fed raised rates, the market had an adverse reaction because it was coupled with concerns about China slowing down, about oil prices dropping and that being a precursor to demand falling and there was a concern that Fed would raise rates too much. That contributed to the dramatic sell off.

I do think they will raise rates in December, but I don’t think the market will react the same way again because the Fed has demonstrated that it’s not going to move too quickly.

The election in November - your take on that and how closely are you watching the outcome and how could that affect in how you look at investment opportunities? Are you concerned about the outcome in any direction?

From a market perspective, the market expects Hillary Clinton to win. If Trump were to win then there would be a negative reaction in the short term. This is because the market doesn’t know what his policies will be because he’s been all over the map. As the markets hate uncertainty they would not react well to him winning. But that would be short-lived. It’s important to remember that he would be a president, not a dictator. He has to get congress along with him and that would involve a lot of compromise.

What you can expect depends on being bullish or being bearish. If you’re bullish, then there would be an attempt to have comprehensive tax reforms and not just tax cuts. There would be more infrastructure spending as well. There could be an environment that markets would like.

On the bearish side, markets would not like at all any protectionist actions, any moves to aggregate the free trade deals we have, they wouldn’t like a belligerent attitude to trading partners. If those things came along that would probably not be great.

We pretty much know what Clinton would do. It’s mainstream kind of stuff. What’s lacking in her campaign is a growth agenda. It’s all about income inequality, about regulations and taxing the wealthy. What’s missing is something about growth.

Would mid-term elections be more important then, because the exact policies would be more crystallized?

It’s really too early to say anything about what kind of effect that would have.

The views expressed in this commentary reflect those of the author as of the date of the commentary. Any views are subject to change at any time based on market or other conditions, and LMM disclaims any responsibility to update such views. These views are not intended to be a forecast of future events, a guarantee of future results or investment advice. Because investment decisions are based on numerous factors, these views may not be relied upon as an indication of trading intent on behalf of any portfolio. Any data cited herein is from sources believed to be reliable, but is not guaranteed as to accuracy or completeness. References to specific securities are not intended and should not be relied upon as the basis for anyone to buy, sell or hold any security.

©2016 LMM LLC. LMM LLC is owned by Bill Miller and Legg Mason, Inc.