Bill Miller, Legg Mason Capital Management’s former Chairman and Chief Investment Officer, announced last November that he would turn over full management of the Value Trust to Sam Peters, who was the co-manager of Miller at the time of the announcement. Under Miller’s management, Legg Mason Capital Management Value Trust outperformed the market for 15 consecutive years from 1991 to 2005. Miller’s performance in recent years was less spectacular. Will his successor Peters generate the type of stunning returns Miller did early in his tenure at Legg Mason?
It seems that Peters is doing quite well so far in 2012. The 10 largest positions in his 13F portfolio have returned a weighted average of 20% since the beginning of this year, versus 11.88% for the S&P 500 index.
Table 1: Top 10 positions in Legg Mason’s 13F portfolio at the end of 2011
| Company Name | Ticker | value | Activity | YTD Return |
| APPLE INC | AAPL | 220563 | -9% | 56.46% |
| EBAY INC | EBAY | 194143 | -15% | 17.44% |
| BLACKROCK INC | BLK | 160652 | -17% | 16.45% |
| PHILIP MORRIS INTL | PM | 157554 | -16% | 13.95% |
| E M C CORP MA | EMC | 146510 | -16% | 34.35% |
| MICROSOFT CORP | MSFT | 145119 | -32% | 22.22% |
| GENERAL ELECTRIC CO | GE | 144539 | -5% | 9.80% |
| PEPSICO INC | PEP | 144467 | -22% | 0.52% |
| ABBOTT LABORATORIES | ABT | 140403 | -10% | 9.96% |
| MEDTRONIC INC | MDT | 138925 | -18% | 0.50% |
The top six positions in the portfolio have beaten the market soundly so far this year. The three best performing positions are all technology stocks: Apple Inc (AAPL), EMC Corp (EMC), and Microsoft Corp (MSFT). We love technology stocks. They usually have high growth rates and, in these cases, because the strong growth is not reflected in their multiples, investors can still purchase them at cheap prices. For example, tech giant Apple has a current P/E ratio of about 18 and its expected earnings growth rate is around 20%. Another tech giant Microsoft is also expected to grow at about 10% and its current P/E ratio is only 11. The appealing valuation levels and growth potential attract hedge funds. At the end of last year, of the 350+ hedge funds we track, there were 127 hedge funds with Apple positions and 95 hedge funds with Microsoft positions in their 13F portfolios.
Tech stock EMC also performed well this year. It was up 34.35% since the beginning of 2012, outperforming the market by about 23 percentage points. Legg Mason had $147 million invested in this position. A large number of hedge funds opened new EMC positions over the fourth quarter last year. As of December 31, 2011, there were 53 hedge funds reported to own EMC in their 13F portfolios, up from 37 hedge funds at the end of September. Ray Dalio’s Bridgewater Associates was one of those funds that had initiated a new position in the company over the fourth quarter of 2011, anteing in $6.1 million of EMC. The company has a current P/E ratio of 26.3, higher than the industry average of 18.17. EMC’s high earnings growth explains its relatively high current P/E ratio. The company’s EPS grew at an average of 14.45% per year over the past five years. In the most recent quarter, the company’s EPS increased by more than 30% when compared with its EPS in the same period a year ago.
Analysts expect EMC’s strong growth will continue in the future. The company’s earnings are estimated to grow at an average of 16% annually in the next couple of years. Therefore, while EMC’s current P/E ratio is higher than the average of its peers, we still believe the price premium for the strong growth is worth paying. In fact, the company’s forward P/E ratio is 14.62, on par with the industry average of 13.66.
EBay Inc (EBAY), Blackrock Inc (BLK), and Philip Morris International Inc (PM) also generated double-digit returns since the beginning of this year. EBay is much more attractive than its main competitor Amazon.com Inc (AMZN). EBay has a low forward P/E ratio of 13.39, a significant discount to the industry average of 25.78, while Amazon is relatively overpriced.
Blackrock also has attractive valuation levels. We think the market is over concerned about the negative influence of the European debt crisis on financial companies. Blackrock has a forward P/E ratio of 13.7 and its earnings are expected to grow at over 12% annually. It also has a decent dividend yield of 2.91%, versus 2% for 10-year Treasury bond.
Philip Morris is an attractive dividend play as well. Its dividend yield is 3.47%. The company has been increasing its payouts every year since its spin-off. We expect Philip Morris will continue to raise its dividend payments in the future. Philip Morris’ earnings yield is about 5.6% and the company pays out around 60% of its earnings as dividends. Analysts expect its earnings to grow at an average of 10% annually over the next few years. The strong growth and the relatively low payout ratios indicate that the company has the ability to maintain or increase its dividends in the future.
