Thursday, February 19, 2009 0 comments ++[ CLICK TO COMMENT ]++

Bill Miller 4Q 2008 Commentary

The number of Bill Miller fans has been decreasing at the rate of the market decline of late. I missed his 4Q 2008 commentary that was released last month and just went over it. I think he is too optimistic with his expectation of a strong year in 2009 but that's his personality and I've mentioned that before.

Although the financial system influences the economy and the stock market, I don't buy his view that financials will lead us out. This may not happen for two reasons.

One reason is simply due to the change in market capitalization of financial companies. The value of financial firms have dropped significantly and the indexes may not be as influenced by them as we go forward. For instance, the DJIA may see Citigroup and American Express being dropped from the index without being replaced by any other financial company. A company like G.E. is considered a conglomerate or industrial company but my impression is that it has primarily been a financial company for the last decade since something like 50% of earnings came from their financial operations (this is similar to saying that GM was a financial company in the last 5 years or how Berkshire Hathaway is an insurance company now.) I am not predicting index changes but just pointing out what can happen over the next 5 years. Even if the company isn't kicked out, its share price may drop so much that it doesn't have much impact any more (Dow is price-weighted.)

The other reason I am uncertain about financials being the leading horse is due to the fact that we may have entered as massive credit bust. If so, it is highly unlikely that financials will post strong profits for many years. I have to double check this but I believe that Japanese banks have been the worst performers even during periods, such as 1995-1997, when the market and the economy recovered quite a bit. If many financial companies are insolvent as superbears claim, they will be a drag for a long time.

A massive credit bust may also indicate the peaking of an industry--in this case the financial services industry. From my reading of history, it seems that railroads, which were as dominant as financial services were in the last 30 years, peaked in the early 1900's and they never led us out of the Depression. The same thing could happen with the financial sector peaking and declining for a long time.

I agree with some of what Bill Miller says about government policy. Clearly there are conflicting signals and mark-to-market accounting has been a total disaster. As Miller points out, everyone wants private capital flowing into the banks but that's not going to happen if capital keeps getting wiped out. One thing I disagree with Miller, though, is his implication that the government ought to benefit shareholders. I have to say that the government is not in the business of propping up the stock market or shareholders so it is a bit too optimistic of Miller to expect that the government won't punish shareholders of banks that are saved. In any case, most of this is going to be theoretical disagreement because I think the government will nationalize the insolvent banks when the time presents itself. Already, it looks like the British government will take Lloyds and Royal Bank of Scotland onto the government's books, and it wouldn't surprise me if some other governments do the same thing.

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