Wall Street Week with Louis Rukeyser; 2309; The Value Man

Ears ears ears. Wall Street Week With Louis Rukeyser

is made possible by the Corporation for Public Broadcasting and by the annual financial support from viewers like you by the travelers of over 30 million Americans benefit from our insurance investment services and managed health care. The travelers America's umbrella by FS and FS helping usual fund and institutional investors achieve their financial goals since in 1924 and by Prudential Securities we believe the most important thing we earn is your trust. Prudential Securities. Produced Friday August 27. Guest host Mary Farrell our panelists are. Bernadette Murphy and Robert Stovall. Tonight's special guest is William. This is President Mason funded by. Good evening. I'm Mary Farrell. Louis Rukeyser is on vacation so I'll be your host

tonight. Welcome. Well this was the week when NASA's billion dollar baby never phoned home. The Mars Observer the first U.S. mission to the red planet in 17 years fell silent just days from reaching its destination. And now mom and dad are worried that Junior may be lost kidnapped or worse. There hasn't been a successful landing on Mars since our Viking spacecraft in 1976 which incidentally photographed a Martian rock formation in the shape of a human face longer than the Golden Gate Bridge and as tall as the World Trade Center. Maybe Mom and Dad should be worried. But while little green men may not be welcomed in Nassau they would feel right at home in Wall Street as the Dow and the broader markets hit numbers this past week that were out of this world. The Dow recorded its 21st record high of the year on Wednesday and came within just 50 points of thirty seven hundred. We like green.

Green is good. Car makers got a little more pocket change as sales were up for the first half of August while the grass grew greener for existing home sales which rose for the fourth consecutive month in July helped by the lowest mortgage rates since 1968. Consumer sentiment in expectations rose slightly though big ticket factory items have been grounded for the fifth straight month. And banks continue to be stingy with their money prompting more small businesses to be stingy on hiring. We need tonight. We'll talk with the man responsible for investing almost one and a half billion dollars of that green stuff. But first let's check out the other news in the Emerald City in the week. Just past the Dow Jones Industrial Average recorded its 20th and 21st record highs on Tuesday and Wednesday and after slight declines yesterday and today managed a weekly gain of twenty five points to close at thirty six forty point sixty three. While the broader markets all hit records during the week only the

Amex eked out another one today. None of this screen activity managed to arouse even one of our chief elves who still remain at a slightly bullish plus three. Bonds fell today but are up to record levels for the week while precious metal lost some of their luster. And for those of you men who think women go for personality know that a survey of 500 women by Johnston and Murphy found that their idea of Mr. Right is the one who wears loafers or sneakers. And 12 percent have nixed a date because of a man's shoes. Bernadette Murphy does this market have another leg to go up. Or are we just waiting for the other hue to drop. Mary I think the market's going higher. Now there could be some problems if interest rates went up but we don't see that happening. Earnings have been holding together. There's always the fear of the unexpected. That's a problem that we may have to face sometime in the future but it isn't here right now. So the risks are there but if you keep a diversified portfolio I think you are right.

Bernadette even though the Dow is up 10 percent the broader S&P index is up less than 6 what's going on within that market what groups look good what don't. Well the S&P is finally now moved on to new high territory. And I think it will catch up to the move in the Dow. I personally still tend to favor the industrial sector of the market. And if you break the market into consumer industrial and financial I'd have to go with the industrial and with the financial. Bottom. We've had one positive input here where do you weigh in weigh in is a good word in my case I guess Mary. By every historical precedent the market's been overpriced or dangerous for months and months now. But I think at some risk I'll say things like a little different now the main difference is time. We have low interest rates low inflation and because the administration and the Congress are holding back the economy for all they're worth and other things are happening we have a very slow recovery internationally actually which gives the market time for this rotating readjustment. So I don't think we're going to see a

waterfall of all the prices going down of the 10 or 15 percent drop. Rather we'll see one group after the other correct. And I think we'll see 30 700 by the end of next month maybe thirty eight hundred by the end of the year. Well we've had two incredibly positive market watchers here I'm afraid to ask Mike Allen what do you think you're looking for sell single there. You got it I got to do that you know that and I think the major market move is still in a bull phase. I think the major companies like GM and so on which have done all of the right things continue to be favored by the market I think the market's going to move higher over the near term. Are there any particular sectors of the market what a small stocks look versus large stock that's a very good point not too many people talk about that recently where I think the small part of the small stock part of the market's Rivera the very attractive you're at the mutual funds which emphasize those are very attractive and should be looked at by people right now. OK and abundance bang didn't lower rates that like everyone expected right. What does that look like is that going to be a negative for our market.

No I think as Bob was talking about it all that's going to do is slow down the economic recovery which is inexorable but it's going be very slow in happening in Europe and will keep our recovery very slow and keep interest rates down and keep stocks up. So what does that mean for European stocks. How do they look here. Action actually cause a number of the stock markets in Europe to go even higher. And I think that the recovery over there will be slower longer delayed. But when it comes it will very much reflect what's going on in the U.S. last few years I think those stocks go much higher. I would continue to look to the European country fund which you trade on the New York Stock Exchange and very attractive vehicles. In any event panelists It's time now to make our viewers the object of green envy by answering their questions. Part of that Murphy Justin West of Peoria Illinois is curious about the large number of initial public offerings that have been entering the market. He wants to know how IPO is are issued and how can the small investor get in on the action.

Offerings are made through syndicates of underwriters. And you can contact the lead underwriter and get a copy of the prospectus. If you are an active account with one of the underwriting firms you may very well get an allocation. If you're inactive and you receive an allocation you may want to stroll back because that might mean that demand is not quite what it should be. So buyer beware. If you really like a company then I follow it in the after market and they were frequently buying opportunities in new issues. Sounds like good advice. Bob Stovall as a grandfather used to be just the one to help Nathan So in a way that these Brunswick New Jersey whose letter reads I have recently become a grandfather for the first time and I want to help my son and his wife prepare for the college education of this budding genius. How can I maximize growth and minimize tax costs. Whether to myself my son or my granddaughter. And be sure that this money is spent on her education and not some other purpose. So Mary whatever is left of my youth images been destroyed.

I apologize I do have three grandchildren and four foster grandchildren I've thought about this there are two ways that that I know about. One is the U.S. government has a double The savings bond which is free of tax in terms of the income it's earmarked for tuition payments only. And you make out the account in the name of the son Nathan son as custodian for the granddaughter. And as long as he doesn't make over $65000 a year the tax free previews the holes he makes more he has to pay some tax. As far as the growth aspect there is one mutual fund family called 20th Century Funds out in Kansas City that have the 20th century gift trust. This is irrevocable. You pick the beneficiary you pick the time frame you can suggest the investments you put the money there and to say 18 years from now little granddaughter is ready to go off to the Wharton School and do that. Off you go. Sounds good. Mike Holland how would you respond to Robert Kunkel of Sedona Arizona who writes as follows. I recently read that

digging up information about ancestors one's own or someone else's has become the nation's third favorite pastime right behind the stamp and coin collecting. Can you lay to rest by curiosity about investment opportunities in genealogy. It haunts me to know if I stand a ghost of a chance of making a buck out of unearthing information about our past. Looking for a grave answer very very literally. There aren't any codes I'm aware of that are publicly traded in the US that specialize in this area. H&R Block for example has a small subsidiary operation Compuserve which has a large database but it's a very small part of their energy in fact has a very small operation in this area. You really have to stretch to find a way to play this. The Mormons in fact in Salt Lake City have the largest database in the world for genealogy. There's a wonderful bank out there zines Utah bank which is very attractive but there's no no easy way to make a killing for this investment plot. And we can bank on. OK. Now if your

finances have been in the ded zone lately and your broker has been leading you to a dead end don't take it lying down. Just throw the book at him or her and send your ghostly as money questions to us here at Wall Street Week With Louis Rukeyser Owings Mills Maryland 2 1 1 1 7. That's Wall Street Week With Louis Rukeyser Owings Mills Maryland 2 1 1 1 7. Now before we meet tonight's special guest a value investor with a successful track record managing mutual funds. Let's take a look at his rules of investing that have made him in the eyes of his clients the value man as a value investor. Our guest scopes for companies that can be bought at large discounts from their current estimated worth. They must generate excess cash while management keep shareholders abreast of all the comings and goings within the organization. He ignores cyclical stocks or those companies that follow along with the roller coaster ride of the economy. Our guest says he'll

sell when any one of three events occurs when he finds a flaw in the company. When his mutual funds are fully invested and he needs to make room for a better bargain or when a company reaches its fair market value is it really all as simple as it seems. And if so how can we make a buck or two ourselves. For some thoughts on that let's go over now and meet tonight's special guest William Miller the third. Oh. Hello Bill welcome last week. Thank you. William Miller is up to his neck in funding mutual funds that is. As president of Legg Mason fund advisor he heads the investment division of three successful equity mutual funds. Legg Mason value trust. Total Return trust and special investment trust which is outperform the market in each of the last five years. He's responsible for over one and a half billion dollars of other people's money prior

to managing the Legg Mason funds. Mr Miller was the firm's director of research. Still with the market as high as it is are you having trouble finding stocks you life. No actually Mary there's a lot of value in this market this isn't like 1907 where we had a hard time finding value. I think there are two things that worry people about the market. The first is people have a tendency to think dramatically and not quantitatively. So what they do is they reason Gee rates are down a lot and stocks are up a lot so perhaps they're too high. And the second thing people do is they look back at historical data and they see that when P E ratios have gotten into the high teens as they are now and price to book value ratios are over too as they are now the market is historically been weak. So they're concerned that may happen again. But what we're finding is in fact running some screens in the market today. There are over 900 companies with market values greater than a billion dollars. And there are 90 companies that have P E ratios under 10 in that category and if you expand that to companies with market capitalizations of 100 million or greater than the number expands to over three hundred fifty companies with single digit P E ratios.

So you're saying for a real value player the market is not nearly as important as your ability to find stocks. Sure because you don't buy the market you buy a portfolio of stocks one at a time. What particularly do you look for in a stock. We look for companies that we can buy at large discounts to what they're worth. The trick is to figure out what they're worth. What we do is we try and assess the economic value of the enterprise and we do that by projecting future earnings and especially future free cash flows then using a discount rate to try and find the present value. When the companies trade at large discounts to that we can look at the price every day in the paper. Then we do that. We do much more work and we try and find two other things does the management care about the owners of the business and are the earnings really free cash. When you talk about earnings a lot of people associate earnings with growth and typically there's been a debate between value versus growth I think values outperform this year. Does your definition of value necessarily preclude growth companies. We don't believe there's any difference between value and growth of value as a comparison of one thing to another. And growth is a time series. So our question is really where is the

value in the market is it in companies that are traditionally called growth companies. Where is it in companies that are cyclical companies. Right now we're finding it more in in some of the growth companies but but we're finding enough things at low P E ratios to really have a portfolio that looks a lot like traditional value. What kinds of things are you finding that looks like look like good value today. What financial services broadly defined we think are outstanding value banks brokerage firms thrift. Some insurance companies we can buy Citibank for example trades at around $33 in one thousand twenty nine it was twenty eight dollars that's not much of a return for the last 60 60 some odd years. But we can get the Citibank Bank of America Continental Bank below book value those are all very cheap stocks. Are there any other groups the drug companies that used to be high flying growth stocks now seem to have fallen into the value category does that they look good to you. Some do. We're spending some more time in biotechnology than on traditional drug stocks many value investors say gee they don't understand biotech So we're finding that the growth people have left that area and the momentum people have left that area and so they've left it and neglected it. So for

example Amgen right now which is in the mid 30s we think is worth in the mid to high 40s. Biogen which is in the low 30s we convey that conservatively in the high 40s. When you look for value companies are you finding today they tend to be in small stocks large cap stocks big cap or does it matter. It doesn't matter so much there's better value in general in small cap right now. The value line index which consists of both the Dow and the S&P and twelve hundred more stocks sides is still below the levels that it reached in 1907 at the peak while the Dow and the S&P big cap indices are over 30 percent higher. So there's more value in small cap. Are there any particular names in the small cap area that look. Sure a company called Charter medical which which has perhaps the worst of all worlds going forward is not only a medical stock it's a psychiatric stock and not only that it was bankrupt recently. Stocks around $21. It looks like it's losing money on normal accounting measures. But when you dig into it you see that they're actually generating over $3 a

share of free cash flow. Enhanced financial as a company reinsurers miscible bonds it trades at eight times earnings pioneer group is a mutual fund company that also owns a gold mine. We think that the gold mine alone is worth almost the price of the stock. Well as I've heard Lou often say even the experts make mistakes so fire beware. Especially in the small cap area. Again when you're looking at the market today it sounds like you're much less concerned about what's going on in the overall market. I wondering if you look further afield at other markets are you finding value outside the U.S.. We do have some things outside the U.S. We have several positions in the U.K. we have Lloyds Bank and Barclays Bank of United newspapers. We have WPP Group which is the world's largest advertising conglomerate and a Cummins coming back from financial difficulties. In France we have an oil company elf Aquitaine we have Arjen tarea in Spain so you know selectively outside the U.S. there are some things where this nav to trade agreement change your opinion on Mexico where there are opportunities there. I think I think now is more a political event than an economic event it

will tend to make it more difficult if it's past or future. Political regimes to go back to protectionism but long term the trends are very clear towards freer trade and we're very bullish on Mexico about 12 percent of our assets there. Bill I think it's time to see if our panelists have a few questions. You know many of our investors are looking for total return in the stock market. They want dividend income as well as price appreciation. Now they found that utilities but utilities are starting to get pretty high price now. Do you have an alternative for them. As a matter of fact we do we think that Reacher very attractive real estate investment trusts about 60 or so are currently trading in the market. The overall market capitalization of that sector is only about 22 billion dollars. And it's very unusual to find a whole group of stocks where the dividend yield is higher than that of the 30 year Treasury. The dividends are secured in fact they're growing so we think that area is going to be a great area for investors throughout the decade the 90s we've been cutting back on our utilities and moving the money over into rates.

Bill I thought I read that your mission statement that you avoided business cycle stock so I guess I'm wrong on that. So I was watching the motor stocks General Motors the I watch it because of the bellwether price action of GM. GM made a high of this market move it at the end of August end of July rather at forty seven and three quarters and that means the whole market is free of any serious danger for another three months anyway. What do you think of GM and Chrysler and Ford with you on them. We don't own them and we tend to avoid cyclical stocks as a way to quote unquote play an economic recovery we will look at cyclicals if we think there's significant value there. We're spending time on the motors the Chrysler especially is a heavy generator of free cash. General Motors has some more management problems. They're hopefully getting over those. We believe that with the restructuring in General Motors they'll be able to free up significant resources and in fact the company could be both a significant earner and free cash generator in the future so we're well say mildly bullish on General Motors.

Bill another reasonably successful value investor Warren Buffett last week announced that he might be increasing his holding in Solomon Inc do you have a feeling about the brokerage industry. We own Solomon and we own a larger position in Bear Stearns. We're very bullish on brokers. Secularly for the 90s. One of the things that we think is the market doesn't know how to value these companies Bear Stearns for example at the bottom in 1990 and 11 percent in equity right now in a good market it's around nearly 30 percent in equity. We think seven times earnings is way too cheap for a company like that. Moreover we think that the brokers the banks could be to the 1990s what the food stocks and branded consumer stocks were the 1900 starting out as low multiple stocks ending up as as crowd favorites. Well your record suggests you made fewer mistakes than many portfolio managers. What are some of the red flags that would cause you to avoid a stock or an industry. Well one of the reasons that we that we focus on cash generation is because companies generate excess cash. A lot of times get themselves out of trouble if they get into it.

Looking at cash and looking at managements are two of the things that we put in because of the mistakes we made in the past. We don't come in to too much leverage and get in trouble there we don't companies where the managements would be able to get the value to themselves. And so we've had those two tests in there to try and cut back on mistakes. Are there any particular industries or companies that you'd avoid now. Well we're cutting back on utilities. We would tend to avoid companies that with with strongly positive momentum. I think one of the mistakes in this market is people don't understand the impact of low interest rates and its ability to let you lengthen your time horizon with low interest rates. The opportunity cost of being patient is much lower than it is with high interest rates. And so what you can do in that kind of an environment is focus on companies where the current situation may not be all that great but in a couple of years things could be much better a couple names that would come up in that regard would be Apple computer which people loved in the 70s and now don't like in the 20s. Another one would be Reebok which is earns 20 percent on capital trades nine times

earnings as a great world brand franchise. Well that brings up another company which people loved in the hundreds and don't seem to like it that much lower price today. Does IBM look like value to you today. IBM we think that Mr. Gerstner is due in early probably starting to do the right things it's early I think on IBM turnarounds take a long time I view it as if it is a very big company. We've been buying DEC here which has been going down for six years and the new management's been in there about a year. We also have a growing position in Philips which is sort of to Europe what IBM was to the U.S. Philips has new management and we think that Philips is going to be a good stock of the next several years. OK you made a real reputation in the small cap area which are known for being more volatile in both earnings and price. Can you generalize about value stocks or they tend to be more or less volatile. I don't think you can make that kind of a generalization because sometimes good values appear in stocks that are very volatile technology being an example right now and biotechnology being example right now.

But other times they're in stocks with low volatility we think there's good value in rates which would tend to have much lower volatility than normal. We've been talking primarily about stocks. Are you fully weighted in stocks or do you buy bonds in your point were fully invested we do have some bonds we but in our small cap fund we in special situations fund we've got 50 million a zero coupon bonds the week before the election when the market was worried about the new administration. We have a significant position the long bond in our in our big cap fund. We have begun to gradually lighten those positions because of the decline in rates although we happen to believe that long term rates are going to stay much lower than people are likely to believe. Now you've brought up the election I do think this new budget agreement is going to be a negative for stocks. I think that we can put a positive turn on the budget agreement. It's about the worst combination of spending and taxes that can get through Congress so nothing worse can get through Congress. And I think that as we go into the mid to an election year the administration is going to have to look to growth measures.

Well I hate to end on such a negative note but I hope we look at growth as growth for the future. But I do want to thank our guest William Miller and our panelists for joining us tonight. And I hope you'll be back with us again next week when Louis Rukeyser returns and he'll be talking with a top expert on precious metals. He's Ted Arnold senior metals analyst of Merrill Lynch's London Division and he'll tell us whether he thinks the gold rush is over and if the other models have lost their shine as well I hope you'll join them. Meanwhile this has been Wall Street Week With Louis Rukeyser. I'm Mary Farrell. Good night. Has been made possible by the Corporation for Public Broadcasting. And by the annual financial support from viewers like you by the travelers for avoiding American business with insurance investment services and managed health care the travelers America's umbrella by FS and FS helping you too will find that institutional investors achieve their

financial goals since 1924 and by Prudential Securities. If we believe the most important thing we earn is your trust. Prudential Securities for a printed transcript of this program send $5 to transcripts Wall Street Week With Louis Rukeyser Owings Mills Maryland 2 1 1 1 7. Transcripts are also available to subscribers of the Dow Jones news retrieval service. Street Week With Louis Rukeyser is produced by Maryland Public Television which is soley responsible for its content.

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