The Obvious Play Now

"Don't you read the papers?"

Bill Miller is getting pretty tired of that question. Fortunately, he has a pretty good response up his sleeve.

Do you at least watch Mad Money?
After a rough two-year stretch, Miller -- who famously beat the market for 15 consecutive years at the helm of the Legg Mason Value Trust Fund -- has of late had numerous clients call his investing prowess into question.

"It has been explained to me that it was obvious we should not have owned home builders, or retailers or banks, and that I should have known better than to invest in such things," he wrote in his second-quarter shareholder letter. "It was also obvious that growth in China and India and other developing countries would drive oil and other commodities to record levels and that related equities were the thing to own."

Trust me, that stuff was not obvious
As one of the few investors who actually did see this credit crisis coming, believe me when I say that the events of the past two years are obvious only in the rearview mirror.

Suppose you suspected back in 2006 that lax mortgage underwriting standards and risky new loans would result in increased foreclosures and decreased discretionary income. It was still far from a foregone conclusion that this would lead to the near-collapse of AIG (NYSE: AIG  ) .

Similarly, even if you fully comprehended the tremendous commodity demand from China and India, was $147 oil really so inevitable in early 2007, when a barrel fetched barely $50? And could you have correctly predicted that Halliburton (NYSE: HAL  ) would double over the next 18 months and then give those gains back -- and more? These outcomes were hardly obvious at the time.

Miller's five obvious truths
That's why Miller's simple response to his clients' question is so effective. "While I am quite aware of our mistakes, both of commission and omission, when I ask what is obvious NOW, there is little consensus," he wrote. "If there is something obvious to do that will earn excess returns, then we certainly want to do it."

Have home builders hit bottom? Are financials doomed forever? Can energy rebound? What's in store for DR Horton (NYSE: DHI  ) , JPMorgan Chase (NYSE: JPM  ) , and National-Oilwell Varco (NYSE: NOV  ) ? Miller has no clue -- and neither do his critics.

But that doesn't mean that Miller is powerless to profit from the panicked market environment. In fact, in his shareholder letter, Miller identified five obvious truths that the majority of the market seems to have missed:

  • The credit crisis will end.
  • The housing crisis will end.
  • The U.S. consumer will resume spending.
  • The U.S. economy will adapt and grow.
  • Stock prices will be higher in the future than they are now.

What's obvious now
Allow me to submit another "obvious" insight: With the stock market punishing many quality companies over concerns that may turn out to be overblown and short-term, now is a great time to buy shares of companies with strong financials, dedicated leadership, and great growth prospects.

Take Morningstar (Nasdaq: MORN  ) for example. Led by founder Joe Mansueto, this $1.6 billion company is the gold standard for mutual fund ratings. In addition to fund ratings, Morningstar also serves financial advisors, provides investment consulting, produces independent equity research, and publishes investment newsletters (what a novel concept)!

Morningstar's earnings will likely take a short-term hit due to decreased online advertising spending and areas such as investment consulting, where revenue is tied to asset-based fees. And the collapse of financial giants that use Morningstar's research is certainly troublesome. However, at nearly 60% off its 52-week high, I believe the sell-off is overdone.

The company boasts an impeccable balance sheet, with about $300 million in cash and no debt. And the recent market malaise could actually be a blessing in disguise. As the company noted in a recent investor Q&A session, "We believe the recent market downturn will leave investors looking for trusted sources of independent investment research ... Morningstar remains well-positioned to meet that need."

An obviously valuable service
Motley Fool co-founders Tom and David Gardner have identified plenty of promising companies that, like Morningstar, have strong financials, dedicated leadership, great growth prospects, and a discounted share price. So far, this strategy has paid off for Stock Advisor subscribers: Since 2002, the brothers' picks have beaten the S&P 500 by an average of 28 percentage points. To see all of Tom and David's recommendations, as well as their best bets for new money now, simply click here for a free 30-day trial.

This article was first published Aug. 16, 2008. It has been updated.

Rich Greifner obviously likes Morningstar. Rich owns no shares of any company mentioned in this article. The Motley Fool owns shares of Morningstar. Morningstar and National Oilwell Varco are Stock Advisor recommendations. JPMorgan Chase is an Income Investor pick. The Fool has a disclosure policy.


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  • Report this Comment On December 22, 2008, at 10:24 PM, wertik77 wrote:

    Morningstar is overpriced - in will go to 2$ a share in

    2 month. No real business model all imagination of rating.

    Close to reality, consulting is waste of money - no quality all cooked numbers - no real model.

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