View Full Version : The World's Greatest Investors

08-13-2006, 04:34 PM
By Dyan Machan Published: July 12, 2006

ONE OF THE GREAT THINGS about the American capitalist system is all the noise. For every buyer there's a seller and many in between expressing opinions. So it's unusual to hear some of the canniest investors in the world all singing a version of the same tune. There isn't a man on our roster who isn't lusty over big-name stocks, which have been left behind in recent years while smaller stocks have surged ahead.

Christopher Davis, of Davis Advisors, is thrilled to find many of his favorite companies, like Procter & Gamble and Wal-Mart, selling at valuations he hasn't seen in years. "You won't get a 10- or 20-bagger, but decent growth and more protection," he concludes. John Neff, who built a stunning record during his 31 years at the helm of Vanguard's Windsor fund, sees stocks as a superior alternative to bonds and real estate. "Equities are selling at 14 times next year's earnings, not a giveaway," he says, "but long bonds aren't very interesting, nor is commercial property." David Dreman, of Dreman Value Management, wouldn't touch a high-multiple stock with a barge pole. He is slyly pleased that lofty names have come down to earth.

Even Omaha's favorite son, Warren Buffett, is singing. Or should we say swinging? Fond of baseball analogies, Buffett is finally taking a few cuts at some fat pitches after years of watching balls go by. Not to be metaphorically outdone, Bill Miller, of Legg Mason, finds a current lesson for investors in Henry James's The Beast in the Jungle. The protagonist fails to marry his true love because he is so sure that tragedy will befall him and therefore her. Nothing horrible happens to him, however, and he misses out on love. Thus, fearful investors pessimistic about deficits and inflation may lose out not in love, but in prosperity. Patience, all five agree, is key.

Warren Buffett
At the Berkshire Hathaway annual meeting, Chairman Warren Buffett and Vice Chairman Charlie Munger sit at a table eating See's Candies and sipping Cherry Cokes. Sotto voce, Munger says to Buffett: "Pass the candy." Warren pushes it over, grumbling: "Next year, Charlie, get your own box!" The nation's second-richest man is as good at minding his candy as he is at minding his cash.

Berkshire mints cash like a Third-World treasury. And since the company doesn't buy back its stock or pay dividends, it has piled up a mess of it. Although Buffett, 75, has spent $23 billion on companies over the past five years, he still has $43 billion waiting to go to work. Lately, however, that cash is burning a hole in his pocket. Over the past year, he has invested in ConocoPhillips, General Electric and United Parcel Service. He has also bought control of a handful of businesses, including a $4 billion deal for 80% of Iscar Metalworking, an Israeli toolmaker. Iscar signals Buffett's declared desire to buy non-U.S. companies to protect Berkshire earnings from a weak dollar. Iscar fits into the Berkshire portfolio for another reason. It's ho-hum.

How does he find these remarkably run-of-the-mill operations? He reads newspapers, magazines and books about companies almost obsessively up to 10 hours a day but some deals simply fall into his lap. Last year, for example, he received a two-page fax from the owner of Forest River, a recreational vehicle maker; seven days later they shook hands on a deal. Buffett also liked the letter written by the president of Business Wire, and before long he bought that, too. "If you have a business that fits, give me a call," writes Buffett in his letter to shareholders. "Like a hopeful teenage girl, I'll be waiting by the phone."

While he waits for suitors, others may want to court his stock. Berkshire's Class A shares, at $90,500, have been flat over the past two years due to concerns about the effect of last year's hurricanes on its insurance holdings, a management long in the tooth and unspent cash. Meanwhile, Berkshire's businesses have been powering ahead, such that Keith Trauner, a portfolio manager at the top-performing Fairholme Fund, thinks the shares are worth $150,000 one good reason he has 15% of the fund's assets in the stock.

Warren, a little private advice: If these numbers are anywhere near correct, go buy Charlie his own box of candy.

Buffett's Picks
After a long dry spell, Buffett is finding stocks he likes at attractive prices. Here are three of his recent purchases:
ConocoPhillips (COP)
Diversified energy company with a 2.4 percent yield and a bargain price.
General Electric (GE)
Industrial and financial powerhouse, looking inexpensive based on historical valuations.
Iconic, well-managed company that the world depends on.

Bill Miller
There are the normal discussions that go on around high-glossed conference tables of fabled moneymen. Then there's the discourse at Legg Mason Capital Management led by Chief Investment Officer Bill Miller. In deciding whether to buy Sherwin-Williams, a stock that was recently down 15% after news of potential litigation, Miller asks whether the selling pattern "fit the fallacy of vividness."

Fallacy of vividness? For those not versed in behavioral economics, that refers to how investors tend to latch onto the most recent piece of information and give it more weight than it statistically deserves. The answer was yes. Miller bought the stock at around $40. Today it trades around $47.

A former military intelligence officer and a onetime candidate for a Ph.D. in philosophy, Miller, 56, is not your average money manager. His favorite philosophers include David Hume and Ludwig Wittgenstein, whose last words, Miller notes, were "Tell them I've had a wonderful life." But if his intellectual prowess is notable, what gets the most attention is his astonishing streak: The Legg Mason Value Trust, which he's managed since 1990, has beat the S&P 500 15 years in a row. So does all the fuss about his record get tiresome? "I suppose given the choice of beating the market or not, I'll choose to beat the market," he says.

That would mean no. Miller is a market phenom for another reason as well. For the last couple of years the fund has trailed the S&P until virtually the final hour, when in what seems a puff of smoke, his stocks have surged ahead. "If this were deliberate, don't you think I would do what I supposedly do at the beginning of the year?" he asks. "It just happens with our portfolio."

At this writing, Miller is seven points behind the market, his portfolio sagging under the weight of United*Health Group and Aetna. So will it "happen" again this year? If it does, chances are it will be driven by some late-breaking action in the big health insurers or Internet stocks like Yahoo. He predicts that Yahoo will learn how better to monetize its searching strength. And in a nod to another great investor, Miller says that Sears is an opportunity to buy a young Warren Buffett in Edward Lampert. "He's an exceptional capital allocator, and he's 44 versus Buffett's 75," Miller says. "I look at the market cap and wonder, 'Where is everybody?'"

Miller's Picks
People confuse objectives with strategy, says Miller, who often seems to defy the value manager label. "Our objective is to add value. Our strategy is doing what works."
Dell (DELL)
Lowest-cost PC maker has room to grow overseas, worth $40.
Sears (SHLD)
Middle America will spend paychecks here. A stock to put away and forget about.
Yahoo (YHOO)
Powerful fundamentals and an active buyer of its own shares.

Christopher Davis
If there is an investor gene, Christopher Davis, 41, chairman of Davis Advisors, has it. Both Davis's grandfather and father, who founded the firm, were legendary money managers, and the younger Davis, who oversees $45 billion in assets, hasn't done too poorly either. His Selected American Shares and Davis New York Venture funds won him Morningstar's domestic stock fund manager-of-the-year award last year. And after an exhaustive search for a new investment manager, the Clipper Fund hired him to run its $3.2 billion portfolio. "Besides a superb track record, Davis has integrity," notes Michael Glazer, the lawyer for Clipper Fund.

And modesty. Indeed, Davis would rather this article weren't written. In a conference room where a gilded portrait of his great-great-uncle looks down, Davis shifts uncomfortably in his chair. "I want this written when I retire!" he stammers. "I'm still doing it." Precisely. His $34 billion New York Venture fund, which he has managed with Ken Charles Feinberg since 1995, has delivered 11.7% a year, versus 9.1% for the Standard & Poor's 500.

Growing up in a famous family wasn't always a cakewalk. "I wish my father gave me some normal advice," Davis smiles. "My father would tell me: 'Never trust a bear market rally on a Friday afternoon!'" Not much help for navigating high school. His forebears did, however, prepare him to recognize what he considers a rare moment in investing history. With the market's biggest names trading at historical lows, "it's like an inverted Nifty Fifty," Davis says, referring to the early 1970s, when the biggest names traded at sky-high prices. Paraphrasing a lesson he learned from his father, he adds, "Once every 10 years or so, you can buy the stalwarts."

Davis's grandfather was called the dean of insurance stocks, and no list of Davis's stalwarts would be complete without one. His favorite, Progressive Group, has been increasing earnings at around 20% a year for 25 years. Outside of insurers, he also likes Microsoft, "an above-average company that could be vulnerable to good news," he smiles.

Davis cautions that the stalwarts could still slide some more. And far from being cavalier about it, he says he feels every decline, just as he feels the weight of his forebears. "I feel them," he says soberly. "I feel them every day."

Davis's Picks
He buys strong companies that the market has turned its back on and holds them for four to seven years.
Microsoft (MSFT)
Market leader, launching its biggest new product cycle in 10 years.
News Corp. (NWS)
Priced as an old-media stock, but well positioned for the digital age.
Wal-Mart (WMT)
There's a target on its back, but no one can beat the value it gives customers.

David Dreman
There was a time when David Dreman, 70, the noted contrarian investor and investment chief of $17 billion Dreman Value Management, followed the crowd. It was 1969, and Dreman, then a junior analyst, watched in wonder as the shares of tiny companies with negligible earnings skyrocketed. "I invested in the stocks du jour and lost 75% of my net worth," Dreman says. "It was the only time I had an ulcer."

His stomach feels better now. Turning his back on the herd, he became fascinated with how human psychology affects investing why, for example, people overpay for stocks and why they make the same mistakes again and again. "Why don't people just get it?" Dreman asks. "We know from 50 years of data that low price-to-earnings stocks will outperform high-P/E stocks." One million dollars invested since 1970 in low-P/E stocks, he notes, would have earned $228 million, versus $23 million from those with high valuations.

Dreman says that people fall prey to all sorts of biases when they buy stocks. If you can avoid the biases, you can avoid mistakes. "I don't know what kind of car he drives," says Richard Zeckhauser, who teaches a course in behavioral finance at Harvard University. "But if he were to choose between a BMW and a Buick, he might want the Buick. He will not overpay for status."

In other words, he invests in the kind of sensible stocks that are the equivalent of a Buick. Who, for example, would brag about owning a drug company? Big Pharma stocks have been pounded because investors think there are more headaches over lawsuits than new drugs to cure the headaches. Dreman is using that disconnect as an opportunity to add to his positions in Merck and Pfizer; he also owns Johnson & Johnson and Wyeth. That contrarian attitude earned his DWS Dreman High Return Equity fund Lipper's No. 1 ranking among equity income funds. Since 1988 it has returned an average of 14% a year, compared with an 11.6% return for the S&P 500.

While Dreman is talking, the market tumbles 250 points. His computer screen is a sea of red blinking lights. Some might panic. Not Dreman. In fact, color comes to his pale skin. "I paraphrase Lord Rothschild: 'The time to buy is when there's blood on the streets.'" Dreman is smiling.

Dreman's Picks
His research shows that an out-of-favor stock with positive earnings surprises will outperform the market by 92%. Here are three that are poised for good news.
Aetna (AET)
Suffering from an overreaction to bad earnings, but gaining market share.
Merck (MRK)
While victimized by Vioxx, its research engine is going gangbusters.
UnitedHealth Group (UNH)
Knocked down after a disclosure of exorbitant CEO pay. Otherwise solid.

John Neff
John Neff recalls the nasty letters he received from investors in the early 1990s, before it was called flame mail. Every bank stock in the country was frying, and he owned many of them. "Don't you read the @#$#@ing newspapers?" one incensed shareholder wrote.

But Neff, 74, didn't build a great long-term track record at Vanguard's Windsor fund by pleasing the crowd; he did so by sticking to his guns. "Sure, we had some real bad years," he says. In 1973, for example, Windsor tumbled 25% to the market's 14% slide. But over the next three years Windsor was up 84% to the S&P's 35%. "It takes patience and a stubborn streak," he says. Indeed. Between 1964 and 1995, Windsor had a 5,546% return, which would have turned a $10,000 investment into over half a million more than double the return of the S&P 500. He owned Citicorp in the early '90s, when it had been beaten up with the savings-and-loan crisis. "Pretty soon, we made some real good money," he chuckles.

Neff retired in 1995 but kept his offices at Windsor's Wellington Management in Radnor, Pa., until early this year. Now he runs a few charitable accounts along with his own money from a bright new office overlooking the surprising bustle of West Conshohocken, Pa. Since 1995 he reports an annual 20% gain, versus the market's 9% annualized return.

Today, as he has for more than half a century, Neff scours the market for stocks at a 40 to 50% discount to the market multiple. Often he'll pick up an idea from the daily list of stocks that have hit new lows, scrutinizing every possible measure he likes Value Line for this to determine if the market has cast it out "for no good reason." Citigroup still fits the bill, as does Lyondell Chemical and YRC Worldwide, the trucker. He also likes home builder D.R. Horton because "there's still plenty of opportunity to build in the middle of the country." But don't expect all these roses to bloom overnight. "At some point the market will find them," Neff says. "I can't recall one time it hasn't."

Neff's Picks
He looks for stocks that have been relegated to the new-lows list "for no good reason," then checks them out from top to bottom.
Citigroup (C)
Poised to benefit from a heating global M&A market, with a 3.9 percent yield while you wait.
D.R. Horton (DHI)
The nation's largest builder trades at less than five times earnings.
Lyondell Chemical (LYO)
Dirt cheap at six times earnings, with an improving balance sheet and a solid dividend.