Bill Miller — who beat the market for a remarkable 15 straight years before struggling the last three — is bouncing back strong this year, with his Legg Mason Value Trust fund up almost 20% in 2009. Now, he says that bargains “abound” in the U.S. market, and that technology and financial stocks will lead the market upward.
“Bull markets typically begin when the following four conditions are present: the economy is bottoming, profits are bottoming, the Fed is stimulating, and valuations are low,” Miller writes in his second-quarter letter to investors. “That’s where we are now. The path of least resistance, as Jesse Livermore used to call it, is higher.”
Miller says that, while it’s extremely hard to predict the economy’s movements, he thinks we’ll see “considerably stronger” GDP numbers than are being forecast. “The preponderance of the evidence supports the view that the worst has passed in the market and the economy,” he said. “Clearly the extreme risk aversion that characterized the period from early October to early March is over, and absent some exogenous event or dramatic policy error, it is very unlikely to return. That has allowed almost all asset prices along the risk spectrum to rise, except Treasuries, a trend I expect to continue, since I think bargains abound in the U.S. stock market.”
Those waiting for more concrete signs of recovery before putting cash back in the market will likely be disappointed, Miller says. “Economic numbers report the past, and corporations observe the present, while the market lives in the future,” he said. “Corporations always express the most optimism about the outlook at the top, and the most pessimism at the bottom. Markets are about expectations, and expectations about the future are improving, on balance, and so are the markets.”
Miller also notes that recession/recovery cycles have a rhythm to them, and we’re seeing that now: “First it is said the fiscal and monetary stimuli are not sufficient and won’t work,” he explained. “When the markets start up and the economic forecasts begin to be revised up — where we are now — the refrain is that it is only an inventory restocking and once it is over the economy will stall or we may even have a double dip. Once the economy begins to improve, the worry is that profits will not recover enough to justify stock prices. When profits recover, it is said that the recovery will be jobless; and when the jobs start being created, the fear is that this will not be sustained.”
Miller sees a couple areas leading the market’s continued rise, including tech and financial stocks. He adds that a few potential problems could derail stock gains, however: rising interest rates, a sharp rise in commodity prices (especially oil), and policy errors. He also says he sees deflation as a greater threat than inflation, despite all of the recent talk about potential inflation.