S&P vs. Value Trust

NEW YORK – If Bill Miller were an athlete, he’d be an Olympian with a rock in his shoe. Miller manages Legg Mason Value Trust, the only mutual fund to outperform the Standard & Poor’s 500 for the past 15 calendar years. But Value Trust had, in his own words, “a dreadful second calendar quarter.”

Value Trust, which has about $19 billion under management, lost 5.67 percent in the first half of the year, a far greater decline than the 1.44 percent dip experienced by the S&P 500. That performance places it among the bottom 1 percent of the 1,600 funds Morningstar ranks in its class.

Value Trust shareholders aren’t the only ones doing a double-take at their quarterly statements. Another $25 billion in funds and separately managed accounts is run using Value Trust as a model portfolio. So when Value Trust stumbles, the ripples can be felt everywhere, from annuities sold by AXA Equitable to the $329.38 million Masters Select Value Fund, where Miller manages approximately 20 percent of assets.

Morningstar Inc. analyst Dan McNeela wrote in May that Value Trust’s prospects were somewhat constrained by its size.

“In his last annual report, Miller highlighted his penchant for buying additional shares of holdings as they go down as a key success factor,” McNeela wrote. “But that option closes down as Legg Mason’s stake in its favorites rises. Miller would have trouble making a bigger bet on Expedia, for example, because Legg Mason already owns more than 20 percent of the company.”

Miller is a classic value manager. He looks for undervalued companies to buy and hold. This strategy translates into big bets. Twenty percent of Value Trust’s assets were invested in Amazon.com Inc., eBay Inc., Yahoo Inc., Expedia, InterActiveCorp. and Google Inc. at the beginning of the year, and those companies accounted for 4 percent of the fund’s underperformance, Miller wrote in a letter to shareholders in July.

“In our view, these companies represent superior economic franchises with the ability to earn above the cost of capital as far as the eye can see, and the market’s myopic, obsessive focus on what is going on for the next three or six months doesn’t alter the business value,” Miller wrote.

Miller also is an investor in Value Trust; he currently has more than $1 million in the fund, according to the fund’s prospectus.

“We are long-term investors and not traders,” he wrote. “Our contrarian approach often puts us at odds with the prevailing views in the market. When our approach leads to underperformance, such as in the current market, there is increasing pressure to change or do something different.”

He added, “It is our willingness to persist in owning names we believe the market is mispricing on a long-term basis that has led to our long-term outperformance.”

Is he correct in that belief? Miller and everyone whose money is invested following his lead, will have to wait and see.